Emerging market debt mixed; technicals giving strength to market

By Reshmi Basu and Paul A. Harris

New York. Aug. 18 - Emerging market debt was mixed Thursday while Brazilian bonds underperformed as political uncertainties continued to chip at investor sentiment.

But the market saw some support from the rebound in Treasuries.

By the end of Thursday, the yield on the 10-year notes stood at 4.21%, down from 4.27% at Wednesday's close.

On Wednesday, the producer price report in the United States showed acceleration in energy prices, which caused pressure in Treasuries Wednesday. The Labor Department said that U.S. wholesale jumped 1% in July, coming in more than expected. However emerging markets managed to show strength despite the sell off.

"The volatility in interest rates has definitely been causing some risk-reduction," said a trader who focuses on Asian credits.

"But with Treasuries bouncing back so quickly that took some of the steam out of that factor."

He said there was retail selling at the margin in sub-investment grade names. That selling stemming from interest rate concerns, he said.

"The volumes have not been significant. It's been exaggerated by the fact that we're in the thin period," remarked the trader.

EM mixed

Thursday's session was described as a mixed bag of trading, according to a second trader.

The JP Morgan EMBI Index was up 0.08% while spreads widened by 5 basis points to 290 basis points more than Treasuries.

"Brazil was under political pressure, so prices have been weak," he said. "We see locals being nervous and selling."

However, one debt strategist said it was difficult to pinpoint exactly what was causing the stress in Brazil.

"The stock market is off 1¾%," said Enrique Alvarez, Latin America debt strategist at think tank IDEAglobal.

"The currency has also underperformed. I tend to think there is a political connotation to this," but he added that it is unclear what the trigger was.

In the past sessions, there have been significant testimony that has prompted turns in the Brazilian market, but this was not the case on Thursday, said Alvarez.

"Other credits just continue to grind tighter," such as Colombia and Peru, said the second trader. On the other hand, Panama saw selling pressure.

During Thursday's session, sources said some credits tracked the U.S. Treasury market while others such as Brazil decoupled.

"The higher-grade and double-B credits...are in general moving with Treasuries most of the time," replied Alvarez.

State of emergency in Ecuador

In another development, Ecuador declared a state of emergency to prevent further disruption of production for the oil provinces of Orellana and Sucumbio. However, Ecuador bonds were not impacted since the story has been ongoing for a couple of weeks, said Alvarez.

A strike started on Monday. But the government and leaders of the strike have not reached an agreement.

Since the strikes, state oil company Petroecuador has lost around $16 million, according to an analyst note.

Although the pipeline resumed pumping, it is not nearly at full capacity. Production has been cut by nearly two-thirds.

Although the state of emergency will allow the armed forced to control the protests and resume production at a quicker pace, a lack of a negotiated agreement will hurt president Alfredo Palacios, said the analyst.

"Palacios is essentially dealing from a position of weakness, so it's not a surprise that the striking population in the region is going to have an upper hand," replied Alvarez.

Strong technicals

Meanwhile, the trader remarked that investors are not at all nervous as buyers continue to dominate the market.

"It's just buy, buy, buy, buy, buy...," he said.

With so much cash being put to work and limited supply, there just is not enough paper out there, he noted.

"Technicals are strong. That's what's holding the market intact," he commented.

"The only thing that is showing weakness is Argentina because they keep on saying we'll issue as long as you buy it, so the market is sort of backing away. Everything else people just want."

Furthermore, the trader added that spreads may compress even more.

"It feels like we're on that track. I'm very surprised. You don't want to be long at these prices. But if people buy, you don't want to be short either."

Significant pipeline in next two months

The market is in that late summer period when there is a lot of speculation about how big the pipeline is going to be and what is going to be in it. It is a time of thin, directionless markets.

"We are hearing reports that the pipeline is going to be significant in the next two months," said the first trader

In the primary market, Korea Development Bank has requested proposals for a planned $500 million offering of bonds that are expected to launch in early September.

The bonds are expected to have a maturity of five years to 10 years.

Also, Shanghai-based Baoshan Iron and Steel Co. Ltd. (Baosteel) has mandated Morgan Stanley to manage its debut dollar-denominated bond sale.

The transaction, which will be the first offshore issue ever from a Chinese steel company, is expected to come in September or October of the present year.

Standard & Poor's assigns is BBB+ issuer rating to Baosteel.

"Most opportunities to diversify should be quite welcome," said the first trader.

"There has not been anything much of that kind of corporate issue out of China, so it will probably get an audience."

And also out of Asia, China Development Bank plans a note offering, according to a registration statement filed with the U.S. Securities and Exchange Commission on Thursday.

Proceeds from the sale will be used to fund foreign currency-denominated loans it extends to finance infrastructure and other industrial projects, to repay debt and for working capital and general corporate purposes.

Merrill Lynch & Co. and BNP Paribas are joint global coordinators. Barclays Capital, BNP Paribas, Citigroup, Goldman Sachs (Asia), HSBC, JP Morgan, Merrill Lynch and UBS Investment Bank are joint lead managers and joint bookrunners.

The deal will be under a shelf with $1.01 billion of capacity, $610 million added Thursday and $400 million carried forward unsold from a previous registration.

Beijing-based China Development Bank specializes in infrastructure project financing.

Moody's Investors Service, Inc. has assigned an A2 rating to the company's long-term foreign currency debt. Standard & Poor's Ratings Group has assigned a BBB+ rating.

Fitch Ratings Inc. has assigned an A- rating.

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