Emerging market debt tracks U.S. core markets lower; PLN sells $1 billion in notes

By Reshmi Basu and Paul A. Harris

New York, Oct. 11 - Emerging market debt was softer Wednesday after the release of the minutes from the most recent Federal Open Market Committee, which put inflation worries back in the spotlight.

In the primary market, Asia is open for business despite the jitters created by North Korea's reported first nuclear test on Sunday, which drew criticism by the world community.

Majapahit Holding BV, a financing subsidiary of Indonesia's state-owned electric utility, PT Perusahaan Listrik Negara (PLN), priced $1 billion of notes (B1/BB-/Perfindo A) on Wednesday in what market sources are calling the biggest Indonesian high-yield transaction ever.

The company priced a $450 million tranche of 7¼% five-year notes at 99.382 to yield 7.4%, inside of the 7½% to 7¾% price talk.

PLN also priced $550 million of 7¾% 10-year notes at 98.976 to yield 7.9%, inside of the 8% to 8¼% price talk.

UBS led the Rule 144A/Regulation S transaction.

The deal saw a lot of demand and went very well, according to a trader who focuses on Asian fixed income securities.

And its success suggested that there is plenty of liquidity out there for deals like this, he said, adding that it has given the market a reasonable bid.

Meanwhile, adding to the pipeline, Russia's OJSC Bank Zenit plans to issue a dollar-denominated offering of three-year senior notes (B1//B).

Citigroup will manage the Regulation S sale of loan participation notes, which will be issued via Zenit Capital plc.

A roadshow is expected to take place in Asia and Europe.

And Hungarian fixed-line telecommunications company Invitel Holdings NV will present its €125 million offering of 6.5-year floating-rate PIK notes to investors in London on Thursday and Friday.

The Rule 144A/Regulation S deal, via bookrunner Credit Suisse, is expected to price early next week.

The notes will become callable after 18 months at par. After that the call premiums increase to 102, 101 and back to par. The notes will also contain a 200 basis points step-up provision.

EM softer with equities

Emerging market debt edged lower Wednesday on a dollar basis as both U.S. stocks and U.S Treasuries retreated.

With the exception of Ecuador, local headlines took a backseat as the U.S. external market continued to be the primary driver for the emerging market asset class, according to market sources.

"We're very much attached to what is going on with the U.S. market," noted Enrique Alvarez, Latin America debt strategist for think tank IDEAglobal.

Wednesday saw risk aversion ratchet higher after hawkish Fed minutes, which underscored an already unsupportive backdrop for the debt market. U.S. equities had been stumbling at the start of the session amid poor earnings results from U.S. corporates. That helped drag emerging markets lower early in the session, said a market source.

"Then came the Fed [minutes]. And then came the plane," he said, referring to the crash of a small aircraft into a residential building on the Upper East Side of Manhattan. The initial headline resulted in a knee jerk reaction by markets in the late afternoon on fears of a terrorist attack.

Latin America flat

Overall, Latin American bonds also turned softer after the FOMC minutes, which showed a bias towards more monetary tightening. Additionally, the initial news of the plane crash pushed bonds lower, but then there was a bounce back, according to Alvarez.

At session's end, the region was down on a dollar basis but flat on a spread basis. Meanwhile the underperformer of the day was Venezuela, which saw its spreads kick out by one basis point on the back of declining oil prices.

Over to Brazil, Wall Street may prefer presidential hopeful Geraldo Alckmin since he would be in better position to pass labor and tax reforms amid a divided congress. But the latest poll released Wednesday showed that Brazilian voters prefer president Luiz Inacio Lula da Silva, who garnered 57%, over former Sao Paolo governor Alckmin, who nabbed 44% of support.

Nonetheless, the country saw light volumes ahead of the local holiday on Thursday. During the session, the bellwether Brazilian bond due 2040 was down 0.55 to 130.35 bid, 140.35 offered.

Moreover, there is a high probability that Lula will emerge as the winner given the country's strong fundamentals and barring any new scandals, according to an analyst.

"The Brazil story is still seen by many as fundamentally a positive story as far as the transition phrase," noted Alvarez.

"Once the election is actually out of the way, the market may come back and recalibrate the overall risk profile regarding Brazil. That may mean that we may see prices a little bit lower if Lula is elected and we have a very disadvantageous makeup of congress," he said.

Ecuador bounces

But while the rest of emerging markets debt generally ignore local developments, politics remained the main trigger for trading in Ecuador.

Polls are showing that radical leftist Rafael Correa's momentum is tapering off, suggesting an increased likelihood that the presidential race will move to second round. However, the odds are in favor of Correa emerging as the winner in a second-round vote, noted market sources.

In the past three sessions, Ecuador has seen a bounce back on JP Morgan's recommendation that investors go long on the country's bonds coupled with Correa's apparent loss of momentum in polls.

In trading Wednesday, the Ecuadorian bond due 2015 added 0.50 to 95.50 bid, 96 offered.

Overall, Alvarez noted that the fast money crowd and hedge funds have not been active players in the Latin American region recently.

"They were active in Ecuador, but they have tended to cover over the past couple of days.

"Some of the dedicated money has been accumulating positions, but you don't have a large definition of primary source of absorption for the market," he said, adding that fast money players have quieted down while the dedicated money is long, waiting to see what will be the next price trigger to propel the market.

Korea settles down

Following the volatility triggered by North Korea's nuclear test, the Korean credit derivative swaps market appears to have settled down in the past two sessions, according to the trader quoted above.

He noted that there was quite a bit of buying of protection in anticipation of the tests last Thursday and Friday.

Moreover, heading into the weekend, credit default swaps were two to three basis points wider.

Then as news of the reported tests surfaced early Monday morning, CDS spreads did spike up, but only by another three basis points or so.

"But they were quickly sold into in the five-year CDS," he noted, adding that the five-year Korea CDS were trading in a range of 27 [bps] bid, 28 offered on Friday in New York. On Monday in Asia, they traded as high as 30.5 bid before coming back down.

"They have been on a downward trajectory ever since."

Wednesday is the first session that the CDS spreads have stabilized on the way down, observed the trader. Korea five-year CDS closed at 26 bps bid, 27 bps offered, about four basis points off their wides.

One reason why there is relative stability is because of the calmness seen in other markets following the test, emphasized the trader.

For instance Asian equity markets traded better on Monday, following an initial sell-off.

Foreign exchange markets held in reasonably well and local markets were quite firm, which provided a comfortable backdrop.

"Also the fact that the condemnation was pretty much universal. There has not been any strenuous opposition to the imposition of sanctions," he said, suggesting that there will be a more uniform response to the nuclear standoff, which is providing some comfort to investors.

Additionally, there is some skepticism with regard to how successful the test was as some scientists have said that the test may have been a failure.

"So the market's response seems to be that it has not been as bad as it could have been," he observed.

Looking ahead

In the long-term, the stand-off does add instability to the region. The situation could potentially trigger increased arms spending in the region.

"It could start an arms race which will obviously be negative for government deficits and government spending," the trader warned, but also emphasized that such a potential scenario is in the future.

"A lot depends upon whether the Six-Party talks can achieve some resolution. If that doesn't happen you can look for competitive spending on arms, and some increased tension in the region," he added.

And that has a knock-on effect on economic strength.

"For now the market is very keen to ignore bad news."

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