Emerging market debt tumbles on risk aversion; EM inflows at $194 million; Ukraine, Lebanon price

By Reshmi Basu and Paul A. Harris

New York, Oct. 6 - Emerging market debt saw a third day of selling as risk aversion hit global markets Thursday.

Meanwhile, EmergingPortfolio.com Fund Research reported that emerging market bond funds saw inflows of $194 million for the week ending Oct. 5.

And in the primary Ukraine and the Lebanese Republic both sold sovereign deals.

While the previous two sessions saw profit taking, Thursday's sell-off was greater in magnitude, said a market source, who added that spreads widened by 18 basis points.

"There are a lot of large jitters going through the market," said Enrique Alvarez, Latin America debt strategist for research firm IDEAglobal.

"You had very wide bid-offer spreads at a couple different points of time during the day," he said.

That is significant because it shows potential buyers, in particular dealers, are unwilling to absorb paper and give the market support, he observed.

Across the board, emerging markets, along with other asset classes, were knocked down. U.S. Treasuries ended lower, ahead of Friday's nonfarm payroll data. The 10-year note's yield stood at 4.37%, up from Wednesday's close of 4.35%.

The U.S. stock market closed down for the fourth consecutive session, unsettled by inflation concerns, as well as by the interest rate picture and by oil prices. The Dow Jones Industrial Average fell 30.26 points to 10,287.10.

"There was selling in some more liquid names," said a buyside source. "But I think it's normal after the rally we had in the past month."

During the session, the Brazil bond due 2040 lost 2.35 to 118.40 bid. The Russia bond due 2030 slipped 1.42 to 112¼ bid. The Venezuela bond due 2027 fell 2.65 to 113¾ bid.

The buyside source added that next week would serve more as a litmus test as to whether or not the market will enter into a deeper correction, given the holiday weekend in the United States.

"I don't think anyone is willing to go long before a three-day weekend.

"And hopefully we'll get good entry levels," continued the buyside source.

Alternatively, Alvarez said that he would not be surprised if there was more volatility during Friday's session.

"You've had three days of drops. And you have to make a decision if you haven't gotten out by now, especially the fast money crowd," he noted.

Coming up, pressure may be seen in more illiquid names, which have been lagging behind liquid credits, said Alvarez.

Meanwhile, he added that the market will have to assess what falling oil prices mean to the Latin American region. Lower oil prices are generally good for all economies because it reduces inflation pressure.

But the market is seeing the drop in oil prices as a signal that there is less consumption out there.

"And you aren't assured that whatever type of slow down takes place will be a short-term event," Alvarez said.

Welcome news

The recent bout of spread widening may be seen as a welcome event, since investors have been worried about the stretched valuations in the market, a key issue at September's International Monetary Fund meeting.

"I think it's a correction - that I wouldn't say was expected but was needed," remarked the buyside source.

However, the source will be paying close attention to money flows into and out of the market. And obviously if the market sees outflows, that is a bad sign. But after such a long rally, a correction was needed for buyers to step in, emphasized the source.

EM flows at $194 million

Emerging market bond funds saw inflows of $194 million for the week ending Oct. 5, according to EmergingPortfolio.com Fund Research. This is the 15th straight week of net inflows, which brings the year to day inflows to $5.846 billion. But on a performance basis, the funds lost 0.10% for the week.

Sources have said that global liquidity has given emerging markets strength in the last month. But an emerging market analyst said that new supply would decide whether or not the market loses its ability to grind tighter.

"The core reasons for EM's positive performance over the last two years - low rates, high commodities prices, high but manageable issuance levels - remain in place for now, but that still doesn't mean that investors are adequately rewarded with EMBI+ spreads at +260bp," said the analyst.

"EM got a little frothy in September, and the market is just readjusting closer to August levels."

"Issuance will make a big difference in market performance in the weeks ahead. If issuers leave the primary market alone for a while, EM should be able to consolidate at higher (but not too much higher) spreads," added the emerging market analyst.

"If issuers get panicky and try to rush to market before the window closes, though, EM could have a lot more spread widening in store."

However, the buyside source noted that October was a big month for amortizations and coupons, and that there should be cash to absorb new paper.

Ukraine and Lebanon price

In the primary market, two sovereigns priced. Ukraine sold €600 million of 10-year bonds at par to yield mid-swaps plus 155 basis points.

Citigroup, Deutsche Bank and UBS Investment Bank managed the sale.

And the Lebanese Republic sold $750 million of bonds due January 2016 (B3/B-/B-) at 99.182 to yield 8 5/8%.

The issue priced at a spread of 426 basis points more than Treasuries.

Banque Audi, Banque Med and Citigroup were joint lead managers for the Rule144A/Regulation S transaction.

Philippine Long Distance unchanged on tender

In other news, Philippine Long Distance Telephone Co. announced it has started a cash tender offer and consent solicitation for its $71.986 million of 10 5/8% notes due 2007 and a consent solicitation for its $250 million of 11 3/8% notes due 2012.

Its bond due 2007 was unchanged at 104 bid, 105 offered while its 2012 bond was also unchanged at 121½ bid, 122½ offered.

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