The FINANCIAL — According to Reuters, rapidly escalating violence in Georgia helped send emerging stockmarkets to their lowest level in almost a year on Friday, with Russia hardest hit but with investors suddenly viewing all emerging markets as riskier.
An overnight assault by Georgian troops and artillery into separatist South Ossetia sparked more fighting, with a Georgian official saying Russian jets hit an airbase and with more Russian troops sent into the region.
A senior Georgian official said the two countries were close to war — a scenario few had expected days earlier.
Russian equities .IRTS fell 6.52 percent by 1410 GMT to a 14-month low, with the benchmark global emerging index .MSCIEF down 1.93 percent, falling through the psychologically important 1000 level to hit 988.71, their lowest since August 19 2007.
The impact on broader emerging market sentiment helped undermine currencies from Turkey to central Europe and South Africa just as they were also being pressured by a rebound in the dollar.
"Georgia is having a marked impact on equities," said BNP Paribas currency strategist Shahin Vallee. "On the currencies, I think it is mainly the dollar but it is probably also around 40 percent Georgia."
Russia's rouble lost 1 percent against its dollar/euro basket, while other free-floating emerging currencies were also punished by suddenly more nervous investors also closely watching the dollar.
The Turkish lira <TRY=> was down 1.25 percent, South Africa's rand <ZAR=> down 3.42 percent while the Czech crown <EURCZK=> was down 0.71 percent against the itself weaker euro.
Debt Suddenly Riskier
Benchmark emerging sovereign debt spreads 11EMJ widened six basis points to 296 above U.S. treasuries, an unusually large move implying that investors were suddenly viewing the government debt of emerging economies as riskier.
The cost of insuring Russian debt in the credit default swaps market also increased, with five-year spreads increasing to 116-117 basis points from Thursday's 102, meaning it would cost $116,000 to insure $10 million of debt.
"Everyone is trying to understand if this is a short-term escalation in tensions or if there will be a negotiated ceasefire at some point," said Deutsche Bank strategist Marc Balston.
Emerging equities had already seen a sell-off in recent weeks, undermined by high oil prices hitting growth prospects as well as worries developing economies would suffer second-round effects of a deepening economic slowdown in the developed world.
Recent slight falls in oil prices — coupled with worries over the security of investments after Prime Minister Vladimir Putin attacked coal firm Mechel and the head of BP's joint-venture quit the country in a growing row over control — had already seen sell-off's in Russian stocks.
They are now down 25 percent this year compared to an overall 20 percent for benchmark emerging equities.
Georgia has little in the way of traded international instruments except for its $500 million Eurobond launched earlier this year, which is relatively illiquid. Ratings agency Fitch warned on Thursday before overnight fighting that an escalation to all out conflict could hurt its creditworthiness. [ID:nL7622642]
Fitch said earlier in the year that any conflict would be more likely to prompt a downgrade of Georgia than its much larger neighbour.
But it warned any conflict sparking a division with the West might make it more difficult for Russian firms to refinance their corporate debt [ID:nL06895880].