EM underperforms battered U.S. Treasuries on Thursday, but EM funds see $478 million inflows

By Paul Deckelman and Aaron Hochman-Zimmerman

New York, June 7 - Emerging markets bonds continued to take a beating against a backdrop of falling prices and rising yields in U.S. government paper.

Brazil's 11% bonds maturing in 2040, widely considered the benchmark of the asset class, fell to four-month lows.

In the primary market Kazkommertsbank priced $250 million of new paper, as corporate deals dominated the day's action,

And against the backdrop of negative fundamental news impacting the asset class, the technical news remained positive as dedicated EM funds saw inflows totaling $478 million during the most recent week, according to EmergingPortfolio.com Fund Research.

EM underperforms Treasuries

For yet another session, emerging market secondary trading was negatively impact by surging U.S. Treasury yields, as the suddenly cheaper prices for risk-free paper were seen having the potential to lure some investors away from riskier asset classes like EM debt.

The impact of the Treasury slide, Wall Street's fall and the resulting emerging markets pullback, was especially pronounced among the particularly risky names like Venezuela, Ecuador and Argentina, the first two in renewed states of political turmoil and the latter roiled by investor distrust over the veracity of official economic statistics.

But even previously strong performers like Brazil were seen taking their lumps in the wake of the Treasury debacle, which saw the yields on the U.S. government paper lifted above the psychologically potent 5% mark pretty much across the board - the first time they've been that high since last August.

The yield on the 10-year Treasury at one point spiked upward to 5.12% during the session, its highest level since last July, before closing out at 5.097%, with the benchmark bond's price seen down a full point to 95 12/32. That yield rise on inflation concerns makes the prospect of a U.S. interest rate cut now even less likely than before, causing Wall Street to move sharply lower for a third consecutive session. That, in turn, pulled down bourses and bolsas all around the globe, with those countries' bonds in most cases going along for the downside ride.

A New York-based trader in Latin American issues used a graphic metaphor to give his assessment of how the EM debt market did Thursday: "If I made a vomiting sound, would that give you the right idea?"

As badly as Treasuries did, he said, "EM skewed wider - so we actually underperformed Treasuries."

Among the factors he cited was risk aversion by emerging investors who headed for the relative safety of Treasuries, even as they also declined, and the accompanying slide in equities, which are always closely watched by emerging bond investors.

"With the Dow being down 200 points, [actually, 198.94 points, to 13,266.73, bringing its three-day loss to about 410 points], it's taken everything lower and wider, a lower dollar price and wider on spread."

He said the "big highlights" of the day on the downside were dollar-denominated Argentine discount notes, now trading around par bid, and Venezuela's benchmark 2027 bonds, trading a bit above the 109 area.

He saw Ecuador's 10% notes due 2030 quoted around 84.75 bid.

Even the recently high-flying bonds of Brazil, the continent's biggest economy and one of the strongest EM performers so far this year, were not immune to the downturn.

He saw yields on Brazil's debt widen out by around 4 basis points, and "that's a big move when you're seeing a long bond that's down 2 points and a 10-year that's down over a point," especially since the Brazilian bonds had not widened "in months."

Brazil gets clobbered

Brazil's benchmark bond, the 11% notes due 2040, were seen having fallen 2 points on the session to around the 130.5 level - its lowest point in more than four months. The current yield on the bonds arched up to more than 6% for the first time since mid-February, while its yield to maturity zoomed some 15 basis points to the 8¼% level.

The Treasury slide and EM fall overshadowed even favorable economic developments, as the bonds shrugged off Wednesday's late-session announcement by the central bank that it had lowered its benchmark lending rate by half a percentage point to 12% - the biggest reduction this year - as a rally by the country's currency unit, the real, has held inflation at an eight-year low.

Venezuela, Ecuador move lower

Venezuela's bonds were down 1.77% on the day, according to the widely followed EMBI+ index compiled by JP Morgan & Co., while the average spread on its bonds versus Treasuries widened out by 5 basis points to 282 basis points.

The price on five-year credit default swaps for Venezuela continued to rise Thursday, by 16 basis points to 226.5 basis points.

Besides overall EM weakness pulling the bonds lower, Venezuelan paper has been recently hurt by the controversy over strongman Hugo Chavez's efforts to bring privately owned media outlets critical of his government under state control, and before that, his threat to pull Venezuela out of the International Monetary Fund - which could trigger a technical default on many issues of Venezuela's bonds.

In Ecuador - which has begun worrying investors anew with renewed denunciations of its foreign debt as "illegal" by top government officials, as well as a scandal allegedly involving its economy minister - the value of its debt declined 2% on the day, with the yield on its 10% bonds due 2030 having ballooned out to 11.95%, a leap of 33 basis points.

Argentina - whose bonds have been on the slide the past several sessions even after a sharply below-expectations inflation report, seen by some skeptics as yet another government effort to manipulate economic data for political purposes - was also way down, with the price on the dollar-denominated par bond lower by 3.9% on the day, and the dollar-denominated discount bond's price more than 4% off the pace.

With the inflation statistics under scrutiny, the country's inflation-linked bonds also retreated, with the yield on the 5.83% bonds due 2033 seen having widened by 9 basis points to 6.11%.

Philippines debt moves lower

Apart from Latin American trading, Philippines government bonds were seen slightly lower - though far less to the downside than some other issues - with its benchmark bonds due 2032 seen at 97.375 and its 2031 bonds at 113.25, down about 1/8 point to ¼ point on the session.

However, the cost of the 5-year CDS contracts linked to that debt - a benchmark for perceived risk in Asian bonds - was unchanged at 94 basis points bid, 97 basis points offered, right around its all-time tight levels.

Overall, traders said the EMBI+ index measuring EM spreads against Treasuries as an indicator of risk remained at around the same 155 basis points level to which it had widened on Wednesday.

EM funds see $478 million inflows

In the primary market, $830 million in new issues were priced on Thursday.

And for the seventh straight week, dedicated emerging market funds saw an influx of funds as $478 million entered the market during the week of June 6, reported EmergingPortfolio.com Fund Research.

Year-to-date positive flows to dedicated emerging markets bond funds now total $3.9 billion.

Kazakh deals

From opposite reaches of the Kazakhstan credit curve a pair of corporate issuers placed notes on Thursday.

Kazkommertsbank sold $250 million in 10-year non-call five subordinated lower tier II loan participation notes (Baa2/BB-, expected) to yield 8½%, according to a market source.

ING and UBS will handle the books for the deal, which came at a spread of 350 basis points over five-year Treasuries.

The deal was 1.6 times over subscribed with 66 accounts playing from 20 countries.

Of the total, 35% of investors came from the United Kingdom, 31% from Asia, 14% from Switzerland, 15% from various European countries and 5% from off-shore United States accounts.

Private banks and retail investors made up 42% of the players, 28% were fund managers, 21% were financial institutions, pension funds were 5%, and 4% other entities.

Meanwhile solidly junk-rated Tristan Oil Ltd. priced a $120 million add-on to its 10½% senior secured notes due Jan 1, 2012 (B2/B+) at par.

There had been no official price talk on the Jefferies-led deal.

Proceeds will be used for general corporate purposes and capital expenditures by Tristan's Kazakh affiliates Kazpolmunay LLP and Tolkynneftegaz LLP.

Tristan is a British Virgin Islands oil and gas exploration and production company operating primarily in Kazakhstan.

Argentine corporates price

Alto Parana SA priced $270 million of 6 3/8% 10-year senior unsecured notes (Baa2/BBB+/BBB+) at a 135 basis points spread to Treasuries, in line with revised talk of 135 basis points and at the tight end of the original Treasuries plus 135 to 140 basis points talk.

JP Morgan was the bookrunner.

And Tarjetas Cuyanas SA priced $65 million of peso-linked five-year senior unsecured sinker notes (B) at par to yield 12%.

Barclays Capital and Banco Galicia were the bookrunners.

Air Jamaica prices $125 million

Air Jamaica Ltd., which is wholly owned by the government of Jamaica, priced its $125 million issue of 20-year senior unsecured notes (B1/B expected) at 98.949 to yield 8¼%.

Bear Stearns ran the books.

Edcon hikes price talk

Against a backdrop of the pain and suffering in the U.S. capital markets - with the yield on the 10-year Treasury moving 0.17% higher on the session, to close at 5.13% versus Wednesday's 4.96% close - Edgars Consolidated Stores (Edcon) upped price talk on all three tranches of its €1.83 billion notes offering, which is expected to price on Friday.

The talk on its proposed €1.18 billion tranche of seven-year senior secured floating-rate notes (B2/BB-) was raised to Euribor plus 275 to 300 basis points from the Euribor plus 275 basis points area.

Edcon also raised talk on €650 million of senior unsecured notes (Caa1/B-) in two tranches.

A tranche of unsecured fixed-rate notes, with three years of call protection, is now talked to price with a yield in the 8 1/8% to 8 3/8% range, from the previous 8 1/8% area price talk.

Meanwhile talk on a tranche of unsecured floating-rate notes, non-callable for two years, was raised to Euribor plus 450 to 475 basis points from the Euribor plus 425 basis points area.

Barclays Capital and Credit Suisse have the physical books for the deal, proceeds from which are being used to repay a bridge loan that was put in place to finance the biggest LBO in South African history.

Morocco in the market

From the sovereign space, Morocco (Ba1/BB+/BBB-) disclosed plans to issue a euro-dominated bonds during the week of June 18.

Citigroup and JP Morgan will run the books.

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