Brazilian debt surges late in day on interest rate hopes; IMF cautiously optimistic

By Reshmi Basu and Paul A. Harris

New York, April 6 - Brazil's debt surged higher in the last few minutes of Tuesday's trading on news that the country could see a cut in interest rates as soon as next week.

"It seems like a central bank official signaled there they were going to continue with interest cuts, possibly next week," said a fund manager at 4 p.m. ET.

The Central Bank's monthly policy meeting will be from April 13-14 to discuss the direction of the Selic rate, which was surprisingly cut 25 basis points to 16.25% last month.

"It looks like the market is bidding Brazil up. It happened in the last 15 to 20 minutes," the fund manager said.

Brazil's bond due 2040 finished the day up 1.65 points to 105.6 bid, 105.9 offered. The benchmark C bond gained 0.56 to 97.125 bid, 99.25 offered.

The Brazilian component of the EMBI global index jumped 1.51% towards the end of the trading session. Its spread to Treasuries tightened by 29 points.

"Things have really moved up today," said the fund manager

Trading volume was also higher as a couple of mandates have started to put money to work.

"Initially, they were working more on getting their position into the higher-grade emerging countries like Mexico," said the fund manager.

"Mexico had a pretty good bid. Then it extended into all the other markets. Venezuela had a nice bid" which started around 3 p.m. ET, said the fund manager

"Brazil was one of the last ones to catch the bid."

Overall the EMBI Index rose 0.67%. Its spread to Treasuries tightened five basis points.

Venezuela surfaced as the biggest gainer, as its EMBI component soared 1.85%. Its spread to Treasuries tightened by 26 basis points.

U.S. rate concerns ease

Meanwhile concerns over a rise in U.S. interest rates appear to have subsided, as most investors believe that the Federal Reserve will be cautious in its approach.

"If the Fed is actually raising rates that is considered negative for EM and for global capital markets. You sell Brazil hard on that news," said a buy-side source.

"But the market is saying that the Fed is not going to raise rates tomorrow. And when they do raise them, they are going to try to do so in a way that is not disruptive," he added.

"People are very long [on] Brazil. It's very liquid. It's tough to short Ecuador. It's easy to short Brazil. And the non-farm payrolls put the Fed in play."

"I think investors in Brazil are still trading more on relief that the political environment has stabilized and less on fears that higher U.S. rates will make it more difficult to roll its external amortizations," said an emerging market analyst.

While Brazil will undoubtedly be one of the hardest hit emerging markets countries once U.S. interest rates head higher, U.S rates are currently not high enough to impact the market, the analyst said.

"Yes, U.S. 10-year rates are 50 basis points higher in just three weeks, which is a huge move, but they're still only at 4.20%," said the analyst.

"I would guess that U.S 10-year rates would have to be another 50-75 basis points higher before they really begin to restrict Brazil's access to external capital markets. Until then, it's politics and monetary policy that will drive the market," he added.

One economist said there has been a shift in the forces behind the market.

"The biggest unknown is how fast the U.S. will create jobs, and therefore how fast will the Fed will move away from its acclimated monetary policies," said Alberto Bernal, a Latin American economist for IDEAglobal, a global markets research firm.

"One of the other biggest uncertainties is what will happen in London today? What will happen next week in New York or next month in terms of terrorist attacks?

"We have shifted from one side to the other. It is not only endogenous anymore but it's more exogenous events that are driving the market right now."

IMF stresses policy coordination

The International Monetary Fund was optimistic but cautious on the vigor of international markets in its Global Financial Stability Report released Tuesday (see report on page one of this issue).

"Basically, the point of the document says that the current accommodative monetary policy stance has allowed for the orderly adjustment of the world financial imbalances, more specifically the twin deficits in the U.S. and the over-valuation of the dollar," said Bernal.

The way that the policy has been followed has allowed for the dollar to sink in value but without having strong effects on the financial market on the pace of growth of the aggregate world economy, Bernal told Prospect News.

"The reason for that is because there has been policy coordination among the world Central Banks and world authorities," he said.

"The document does warn about the future when lax monetary policy finishes or is no longer as lax as it is right now. At that point in time, we will have a differentiation between the credits that did that homework, fixed the structural problems of their economy and those who had a free ride of the high liquidity, but did not take advantage of those good times to make the necessary reforms.

"The system will become much more picky whenever liquidity becomes scarcer," Bernal added.

Turkey worries

Turkey remains a hotspot of risk as the country pursues a peace plan to end a three-decade partition with Cyprus.

"It's always bit of a risk because there still macroeconomic imbalances," said a Boston-based fund manager.

"They are doing a pretty good job on keeping themselves on the straight and narrow. But because the imbalances are still there, they don't disappear overnight. One bump and they can be off the virtuous path, so you have to watch it pretty closely.

SeverStal prices

Russian steel company OAO SeverStal priced an upsized $375 million offering of 10-year notes at par to yield 9¼%.

"They supposedly have $400 million of orders in the book," said the buy-side source.

The deal priced at the low end of talk, which had widened to 9¼% to 9 3/8% from the original guidance of 9% to 9¼% which surfaced on April 1.

The issue was upsized to $375 million from $300 million.

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