The see-saw trading environment tipped against emerging markets on Friday as asset prices fell in concert with the sharp decline in US stocks and commodities on economic growth concerns. Latin American currencies were sold off by investors who did not want to stand in the way of a resurgent US dollar that was getting a boost from safe-haven flows that helped to lift US Treasuries and drive down yields.
US consumer spending fell in September, a report showed on Friday, underscoring the fragility of the economy's recovery. Against that backdrop there were signs that manufacturing activity could be picking up. The case for inflationary pressures however remains mute, at least in the United States.
After an initial rise in early New York trade, markets turned markedly lower, pulling the broader MSCI emerging markets stock index down 1.1 percent, down nearly 6.0 percent on the week. The MSCI Latin American stock index fell 4.1 percent on Friday, down over 7.3 percent for the week. Emerging market fixed income markets suffered losses as well, but not as badly as their peers in the stock and currency markets.
Brazil's Bovespa stock index was down 3.78 percent on Friday, having rallied nearly 6.0 percent on Thursday. For the week however it is down roughly 5.5 percent. Yield spreads measured by the benchmark J.P. Morgan Emerging Markets Bond Index Plus widened by three basis points to 322 basis points over US Treasuries. On Thursday spreads narrowed by 15 basis points.
Since emerging markets rely heavily on commodity exports, prices are closely monitored. On Friday oil prices fell over 3.5 percent, while spot gold prices dropped 0.37 percent. Grain prices also lost ground. The diminished risk appetite in the last week has come at a time when investors are starting to see intermittent signals of economic recovery. The latest leading example was Thursday's better-than-expected rise in US third quarter gross domestic product report.
On Friday the Brazilian real fell 1.42 percent to 1.7560 against the US dollar, while the Mexican peso lost 1.02 percent to 13.2120 versus the greenback. Barring this week's US dollar advance, there are analysts who expect the trend to be reversed with emerging market currencies gaining as interest rate differentials improve.
Ades said the long-term fair value models show the Colombian peso slightly expensive and the Chilean peso very close to fair value. Inflation in the region, Ades said, likely has hit bottom. "So with growth picking up and inflation probably edging up in quite a few countries in the region... we see central banks beginning to act anywhere between the first and second quarters of next year, meaning raising rates," he said.
That is in contrast to the Citi view that the US won't start raising interest rates until at least the summer of 2010, while the European Central Bank won't raise rates until late next year or perhaps even into 2011. Japan is not expected to move on interest rates next year, Ades said.
Ukraine's sovereign bonds and credit default swap spreads deteriorated on Friday after President Viktor Yushchenko signed a bill that would raise the minimum wage by over 20 percent - a move the International Monetary Fund's chief said pushed its $16.4 billion in financing "off-track".
Yushchenko is batting to retain his post, facing an election on January 17. Ukraine's benchmark 2016 Eurobond fell 2.25 points to bid 74, driving the yield up to 12.179 percent. Five-year credit default swaps, which act as insurance against defaults or restructurings, deteriorated on Friday. According to data from Markit, Ukraine's five-year CDS widened by 156 basis points to 1,345 bps. It is by far the most expensive sovereign credit to insure.
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