Emerging market sovereign debt yield spreads widened sharply on Friday due almost entirely to a rally in US Treasuries. Investors did seek more protection for their Pakistani debt following the assassination of opposition leader Benazir Bhutto on Thursday.
Holiday staffing levels brought emerging market trading to a near standstill as total returns on the benchmark J. P Morgan Emerging Markets Bond Index Plus, while a bit negative, were nearly unchanged.
"I think next week people will be coming back to reassess and one of the main things will be the news from Pakistan," said Claudia Calich, senior emerging markets portfolio manager at INVESCO in New York. "Not only there but the whole south east Asia region in general. We may see a little bit of risk reduction depending on the situation there, which is still very fluid," she added.
Traders in New York said there was no activity in emerging market credit default swaps.
In Asian trade, Pakistan five-year CDS, which help investors insure against default or credit restructurings, were cited at around 520 basis points versus 480 basis points late on Thursday in New York. Prior to Bhutto's killing, Pakistan's CDS were quoted at around 375 basis points. At 520 basis points, investors would spend $520,000 a year to insure $10 million worth of underlying Pakistani debt.
Investors bid up government debt after a report showed new US home sales slumped in November to their lowest rate in 12 years.
A bright spot, however, was the pickup in business activity in the Midwest and in New York City in December, separate reports showed. Analysts pointed to a weak US dollar as spurring demand for US export-related businesses. Economists expect the Federal Reserve to lower interest rates in early 2008 in an attempt to revitalise the economy, despite a risk of rising inflation.
A weak US economy is bad news for emerging markets. Even though riskier markets have made big improvements in their economic management and reduced their reliance on selling debt to foreigners, a weak US economy does no good for exports of their commodities and manufactured goods.