Emerging Markets-Spreads narrow, local debt drifts on inflation

By Walter Brandimarte

NEW YORK, Aug 22 (Reuters) - Emerging sovereign debt spreads tightened below 300 basis points for the first time in a week on Friday as Wall Street rallied, but local bonds yields were flat to higher in Mexico and Brazil after key inflation reports.

A drop of more than $5 per barrel in the price of U.S. crude oil encouraged U.S. investors to take on some risk, boosting U.S. stocks and driving prices of safer U.S. Treasuries lower.

But Latin American stock markets posted losses, as a drop in commodity prices weighed on shares of bellwether oil and mining companies. The Morgan Stanley's MSCI stock index for the region .MILA00000PUS declined 0.8 percent.

Emerging external debt prices were steady amid thin trading volume, and yield spreads over Treasuries tightened 6 basis points to 297 basis points, according to the benchmark JPMorgan's EMBI+ index 11EMJ. Spreads had closed at 300 basis points last Friday.

"The (debt) market was boosted by the good performance on Wall Street," said Luiz Felipe Brandao, emerging markets director at Arkhe brokerage in Sao Paulo. "Spreads are tightening but volumes are very thin."

Emerging sovereign external bonds have returned about 1.2 percent so far this year on JPMorgan's EMBI-Global index 11EML.

The index, which tracks global bonds issued by 38 emerging countries, is forecast to rise an additional 1.7 percent until the end of the year, according to a client survey conducted by the bank.

Local bonds tracked by JPMorgan's GBI-EM index, on the other hand, are expected to return an additional 3.4 percent in 2008, the same survey showed. That would increase full-year gains in the asset class to 8.6 percent -- below JPMorgan's own forecast of 11 percent returns for 2008.

INFLATION CONCERNS

Yields paid on local government bonds in Brazil climbed after a report showed the benchmark IPCA consumer price index rose 0.35 percent in the month to mid-August. The reading was way below the 0.63 percent increase of the previous period, but still showed 12-month inflation at 6.23 percent, close to the ceiling of the government's target, which is 4.5 percent with a tolerance margin of 2 percentage points.

Interest-rate contracts maturing January 2010 <0#2DIJ:>, the most liquid on the Brazilian Commodities and Futures Exchange, rose to 14.71 percent from Thursday's close of 14.66 percent.

In Mexico, consumer inflation rose 5.53 percent in the 12 months through mid-August, the fastest annual pace since March 2003, the central bank reported.

Despite the high reading, economists said inflation is still within the central bank's tolerance range. They expect policymakers to keep Mexico's base interest rate at 8.25 percent until the end of the year, after three consecutive rises.

Mexico's local government bonds were little changed as a result. Yields on the benchmark 10-year government bond MX10YT=RR declined to 8.52 percent from the previous close of 8.56 percent.

Meanwhile, in Chile, the government announced a $1 billion package of measures to curb inflation and boost growth, including lower taxes on fuel, checks and electronic transfers. For details, see [ID:nN22517802].

Chile's 12-month inflation is running at 9.5 percent, back to 1994 highs, forcing the central bank to raise interest rates to an almost 10-year high of 7.75 percent this month.