* Performance within emerging Europe to diverge further
* Contagion risk reduced as country fundamentals emphasized
* Borders between developed, emerging Europe to blur further
By Sebastian Tong
LONDON, Dec 16 (Reuters) - Lumped together for much of the
initial plunge and subsequent recovery of 2009, emerging
European markets will likely see greater discrimination from
investors next year and, for all the caveats, some may even
outpace euro zone counterparts.
Disparities within central and eastern European markets will
sharpen in 2010 not least because the driver of market herding
over the past 18 months -- the dash for and then wholesale exit
from safe-haven cash funds -- is likely to be exhausted.
That leaves investors to concentrate more on idiosyncratic,
country-specific risk, which abounds in a region where several
countries remain on IMF and EU life support while others have
maintained growth throughout a year of turmoil.
"One of the characteristics of this financial crisis is that
the markets all went down together. They subsequently rebounded
together. But going forward, we're going to see a lot more
divergence in markets and economic prospects," said Rekha
Sharma, global strategist at JPMorgan Asset Management.
In the overall global rebound in risk, Europe has trailed
Asia and Latin America in attracting returning capital, with
European equity funds attracting half of the amount that went
into China-focused equity funds.
The MSCI central and eastern Europe price return index,
which includes Russia and CIS states <.dMI7600000PUS> has fallen
over 40 percent this year, compared to gains of over 70 percent
for the benchmark MSCI emerging stock index <.MSCIEF>.
But regardless of that, some countries have stood out.
Russia's stock market <.RTS><>, for example, was one of the
top five in the world in 2009. Hungarian local debt also
generated some of the best fixed income returns this year as the
debt market restarted trading after a total collapse in 2008.
"There are surprising stories within the region. Compared to
other parts of the world, emerging Europe has been ignored and
that creates opportunities because valuations are cheap," said
Sam Vecht, a fund manager at BlackRock.
Prospects for IMF-recipients economies such as Romania and
Ukraine remain clouded but analysts expect Turkish and Russian
markets to pull ahead next year.
Polish and Czech markets are also expected to be supported
by a Western European economic recovery which has so far proved
quicker than expected.
MORE UNDERSTANDING
Meanwhile, rising concerns over the deterioration of public
finances of common-currency members such as Spain and Portugal
will further blur the lines between emerging and developed
European markets.
In the midst of a sell-off that has hit the debt of most of
the euro zone's most vulnerable economies, some analysts are
pointing to relatively lower debt burdens in central Europe that
make countries like Poland or the Czech Republic more stable
long-term bets.
Greece's parlous fiscal state has already led to a credit
ratings downgrade that has pushed the cost of insuring Greek
debt <GRGV5YUSAC=MP> higher than those for non-EU members Turkey
<TRGV5YUSAC=MP> and Russia <RUGV5YUSAC=MP>.
Even with the implicit backing of the European Central Bank
and a higher credit rating, Greece's benchmark 10-year bonds
<GR10YT=RR> are trading 150 basis points worse off than
comparable debt issued by the Czechs <CZ10YT=RR>.
Poland boasts a far healthier government debt-to-GDP ratio
than core EU members Italy and the UK, as does Romania, even if
it is burdened by doubts over further IMF support.
"The market has become more understanding...There's
definitely more willingness now to compare developed countries
with emerging economies which I think is rational and sensible,"
said Kaspar Bartholdy, managing director emerging markets at
Credit Suisse.
This could go some way to insulating stronger eastern
European economies from contagion arising from weaker peers.
At the height of the crisis, the region was punished as a
whole whenever investor worries over individual countries such
as Latvia and Ukraine flared.
Fears over the stability of Latvia's currency peg <EURLVL=>
knocked eastern European currencies lower and nudged sovereign
debt insurance costs higher in June but the recurrence of such
concerns in October had a much more muted effect.
But the diminished divide between Western Europe and the
former socialist bloc could push non-EU emerging European
borrowers to pay more to borrow next year, when total
emerging-market debt issuance is expected to outstrip this
year's record of an estimated $200 billion.
"There is an implicit guarantee on debt issued by EU
members. As an investor, you would ask yourself whether Greek
credit looks too cheap compared to that of non-EU members,"
said Gyula Toth, EMEA economist and strategist at UniCredit.
(Reporting by Sebastian Tong; editing by Patrick Graham)
