WEEKEAHEAD-Emerging debt investors wary of subprime, Fed

By Walter Brandimarte

NEW YORK, June 24 (Reuters) - Emerging sovereign debt investors should start the week on cautious footing, as they monitor an evolving crisis in the U.S. subprime mortgage market and await the Federal Reserve's key post-meeting statement.

Fears that the subprime mortgage crisis could spill over into other markets already led some investors to flee risky assets on Friday, in an initial flight to safe-haven U.S. Treasury notes.

Emerging debt spreads over Treasuries, an important measure of risk aversion, widened 6 basis points to 159 basis points during the week, according to the JP Morgan's EMBI+ index 11EMJ. Only on Friday, spreads widened 4 basis points.

In price terms, bonds initially rose 0.65 percent through Tuesday, but erased all gains during the three subsequent sessions to finish the week with losses of 0.17 percent, the EMBI+ showed.

"It could be another volatile week up ahead externally, thus, we would prefer to position defensively in emerging markets as the asset class remains vulnerable to a mood shift towards generalized risk aversion," RBC Capital Markets analysts Nick Chamie and Paul Biszko wrote in a research note.

Concerns about the U.S. housing sector hit the market again after news that two hedge funds managed by Bear Stearns had billions of dollars in losses from bad bets on securities, known as collateralized debt obligations (CDO), backed by subprime mortgages.

"The market remains spooked by the prospect Bear Stearns' woes represent only the tip of the iceberg in CDO blowups, and there is a rising possibility that many other hedge funds are in the same boat," RBC Capital Markets said.

The market could get a boost, however, if the U.S. Federal Reserve removes the word "elevated" when referring to inflation in its statement due Thursday, at the end of a two-day meeting.

Such a signal could revive some hopes of a rate cut by the Fed this year, helping lower U.S. Treasury yields and potentially increasing the allure of higher-yielding emerging markets assets.

An important gauge of U.S. inflation, the PCE price index, will also be released on Friday.

In local markets, investors will be waiting for Brazil's 2009 inflation target, which should be announced by the government at some point during the week.

Finance Minister Guido Mantega has urged President Luiz Inacio Lula da Silva to maintain the target at the current level of 4.5 percent, with a tolerance range between 2.5 percent and 6.5 percent. According to Mantega, Brazil should not sacrifice economic growth to reduce inflation further.