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Ecuador default threat, Hungary riots unsettle emerging markets

Emerging markets are having their worst week in six months amid riots in Hungary, a coup in Thailand and threats by Ecuador to restructure its debt, according to traders betting on the creditworthiness of countries in the credit-default swaps market. The perception of credit quality for 40 developing countries from Brazil to Turkey deteriorated 1.8%, the biggest weekly decline since March, according to the Dow Jones CDX Emerging Markets Index. Credit-default swaps are financial instruments based on bonds and loans that are used to bet on an increase or decrease in indebtedness. Ecuador's President Alfredo Palacio roiled emerging markets by saying his government may seek to restructure its external debt.

Demonstrations against Hungarian Prime Minister Ferenc Gyurcsány continued for a fifth night, while Polish Prime Minister Jaroslaw Kaczynski fired his deputy and Thailand's stock market fell to a two-month low after the military seized control. “Suddenly there's a coup in Thailand, all the problems in Hungary, and in Poland the government is teetering on collapse,” said Tim Ash, a managing director covering emerging markets at Bear Stearns International in London. “It's causing a bit of wobble, with so many things coming together.” The cost of credit-default swaps on Ecuador's government bonds jumped to $475,000 from $362,000 this week, according to prices from Morgan Stanley. The prices are based on five-year contracts that cover $10 million of bonds. Prices for credit-default swaps rise as the perception of a country's ability to repay its debt deteriorates. They fall when the outlook improves.

Ecuador's Palacio on 21 September said the country's foreign debt “absolutely” needs to be renegotiated, according to a Reuters report. Ecuador, which defaulted on $6.5 billion of debt in 1999, holds about $11 billion in dollar-denominated bonds, of which about $1 billion mature within a year. The yield on Ecuador's $1.25 billion 12% coupon bond due in 2012 jumped to 12.32%, the highest in a year. “There has been a fair amount of political news which has been negative,” said Kaushik Rudra, an emerging-markets strategist at Lehman Brothers Holdings Inc. in London. “Once you see high risk aversion, people sell everything that they can sell.” Violent demonstrations in Hungary, triggered by a leaked tape in which Prime Minister Gyurcsány admitted his government misled the public about the need to cut spending, may weaken the government's resolve to make further reductions.

Moody's Investors Service put Hungary's A1 credit rating for non-domestic currency debt on review for a possible downgrade. Credit-default swaps on bonds sold by Hungary's government jumped by 18% this week to the highest since Aug. 28 at $44,500, according to Bloomberg data. The perceived risk of owning European company bonds rose today according to the iTraxx Crossover Index, which includes 45 companies with investment-grade and non-investment grade ratings. Companies in the Crossover Index have more than $80 billion of bonds outstanding. The iTraxx Europe Index, which includes 125 companies with investment-grade ratings, was little changed at €30,500. (Bloomberg)