Emerging Mkt Debt, Stks Prove Birds Of Different Feather
sg.biz.yahoo.com Tuesday March 4, 2:00 AM By Mike Esterl Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--U.S. stock and bond prices continue to part ways, but the divergence is proving far more dramatic in emerging markets.
Emerging market debt gained 3.6% in February, according to the J.P. Morgan Emerging Markets Bond Index Plus, pushing year-to-date returns to 5.5%. That easily outstrips profits posted in the U.S. sovereign debt market, which advanced 1.7% last month and is up 1.4% so far in 2003, according to the Lehman Brothers U.S. Treasury Bond Index.
Investors in emerging market equities, by contrast, had a rougher February than their domestic counterparts in the U.S. After a mild downturn in January, emerging market stocks fell 3.2% in dollar and local currency terms last month, worse than the 1.7% decline in U.S. equities, according to Morgan Stanley's MSCI index.
The latest data show that heady profits - and losses - are being booked in the volatile asset class again this year even as many global investors stick to the sidelines amid uncertainty over whether the U.S. will invade Iraq.
Market participants say the Iraqi overhang is stoking fears of another U.S.-led economic downturn amid a low-inflation environment, which is good news for bonds but bad news for stocks.
"The concern is about somewhat weaker growth. The concern is not about solvency," said Jose Barrioneuvo, head of emerging market strategy at Barclays Capital.
Brazilian bond prices, which plunged last year amid mounting solvency fears after neighboring Argentina defaulted on most of its $141 billion in public debts at the end of 2001, are rallying sharply this year, with bondholders posting a 7.5% return in February and 13% so far in 2003, according to J.P. Morgan's EMBI+.
Brazil's solvency concerns have been put on the back-burner in recent months, after the country secured a $30 billion emergency loan package from the International Monetary Fund last August. The new government has meanwhile been busily raising interest rates and preaching fiscal austerity since taking office Jan. 1 - all of which tends to stunt economic growth in the short term but is good for paying the bills.
Not surprisingly, investors in Brazilian equities aren't having as much fun as their fixed-income peers. The country's stocks dropped 4.1% in February and are down 8.1% in dollar terms so far this year, according to Morgan Stanley's MSCI. The numbers aren't much better in local currency terms, with prices in reals down 3.0% in February and off 7.3% in the year to date.
Emerging market stocks, hundreds of which trade on the New York Stock Exchange and Nasdaq, often take their cue from U.S. equities. Major U.S. stock indexes have posted three straight years of declines, casting a big shadow globally.
But while initial public offerings of emerging market shares have dried up since the Nasdaq bubble burst in early 2000, sovereign debt issuers continue to find a market. Mexico has issued $3 billion in sovereign debt in U.S. capital markets so far this year, and several smaller Latin American countries have also been able to issue new debt in January and February after a busy December.
In a survey of its emerging market fixed-income clients published last week, J.P. Morgan said cash balances fell to 3.1%, below a historic cash balance of 4.2%.
Even with Iraq-related uncertainties keeping investors generally wary, many global bond players are having a tough time turning down juicy yields at a time when U.S. Treasury spreads have narrowed to their lowest levels in decades.
Despite strong recent gains, emerging market bonds as a group are still trading at around 700 basis points above U.S. Treasurys. That means an investor can play it safe and earn a yield of less than 4% on 10-year Treasurys or take a chance on comparably dated emerging market paper that's paying close to 11%.
Nigerian bonds rallied 7.6% in February - the top performer in the EMBI+ - but still trade at a little more than 1500 basis points above Treasurys. The African country, which signaled last year it might skip some debt payments but stayed current in the end, is a major producer of oil, a hot commodity these days.
Anton Pil, head of fixed-income at JPMorgan Private Bank, said some investors are also viewing the U.S. corporate bond market as too pricey after debt spreads recently rallied to their tightest levels in half a year - providing further impetus for inflows into emerging market debt.
"I would expect to see that continue unless there's another significant increase in risk aversion, which isn't evident right now," said Pil, whose group advises high net-worth individuals.
As in the U.S., the disparity between the performance of bonds and stocks in emerging markets has a bit of a history. Emerging market bonds returned a whopping 14% last year, according to the EMBI+. Emerging market stocks, by contrast, dropped 8.0% in dollar terms and 9.1% in local currency terms in 2002, according to the MSCI.
Allan Conway, an emerging markets portfolio manager at WestAM, says his fund shifted some of its Brazilian equity allocations into debt last year to take advantage of attractive bond valuations.
WestAM remains cautious on Brazilian equities. But it continues to see interesting opportunities in the country's bonds, as President Luiz Inacio Lula da Silva toes a tight fiscal line and Brazil's ratio of debt to gross domestic product slips back below 60%.
"It's certainly not inconceivable seeing spreads contract by another 100 or 200 (basis points) if (Lula) keeps doing the right things," said Conway, who's based in London.
Brazilian debt was trading hands at 1163 basis points over U.S. Treasurys on Monday, according to the EMBI+.
-By Mike Esterl, Dow Jones Newswires; 201-938-4026; mike.esterl@dowjones.com