Emerging debt-Market drifts waiting on Iraq clues

reuters.com Fri February 21, 2003 12:14 PM ET By Carlos A. DeJuana

SAO PAULO, Brazil, Feb 21 (Reuters) - Emerging market sovereign bond prices drifted on Friday as investors held onto their cash awaiting a clearer outlook on a possible U.S.-led attack on Iraq.

J.P. Morgan's Emerging Market Bond Index Plus posted only a 0.08 percent return on the day as market heavyweight Brazil gained 0.85 percent, boosted in part by optimism the country's new government is taking the right steps to bolster its economy.

Although Venezuela continued to be a point of concern given ongoing political turmoil there, analysts said the market was largely glued to the U.S.-Iraq standoff, seeking clues on when and how an attack could take place.

"It's hard to see the market breaking significantly one way or another until we get some clarity on the geopolitical situation," said Jim Barrineau, vice president in emerging markets research at Alliance Capital Management in New York.

Brazil's benchmark C bond BRAZILC=RR gained 0.50 point to trade at 70.625 by midday, a price Suhas Ketkar, the head of emerging markets analysis at the Royal Bank of Scotland in New York, believes could rise.

"C bonds haven't gone up that much largely because of war concerns. As that war premium at some point in time comes off, there will be a significant move up," he said.

"But until then I think we will see this range trading for most emerging market bonds."

Investor sentiment on Brazil has largely U-turned since the end of last year, when the market was gripped by worries the Latin American giant's new center-left government would mishandle the economy and possibly default on its debt.

But President Luiz Inacio Lula da Silva's administration has proved more market-friendly than expected.

On Wednesday, the Central Bank raised interest rates by 1 percentage point to 26.5 percent, its fifth hike in as many months, to clamp down on accelerating inflation. It also raised minimum reserve requirements for banking deposits, another move that should help prop up Brazil's currency and slow inflation.

"In addition to the rate hike, the increase in reserve requirement was a positive because it shows that the Central Bank is willing to use more and different measures than simply hiking interest rates to attack inflation," said Alliance Capital's Barrineau.

Although the return on Venezuela's portion of the EMBI plus index was down 1.68 percent, the country's benchmark bond VENDCB=RR was trading up 0.125 point at 68.875.

"There's just a general sense that the rule of law is breaking down there and that the prospects for further tension are pretty high," Barrineau said.

The conflict between Venezuelan President Hugo Chavez and his fierce opposition flamed up again on Thursday after police arrested a top industrialist for civil rebellion after he led a two-month strike against Chavez.

Opposition leaders, who accuse the former paratrooper of dictator-like tactics, said they would step up demonstrations to protest the arrest, which they allege is illegal.