Emerging Markets-Price in scaled back Fed rate cut expectations

...possibility the U.S. Federal Reserve may not cut rates as much as expected on Tuesday.

Sentiment towards emerging markets had been lifted on the prospects of a 50 basis point cut in U.S. interest rates, but questions over whether the Fed would deliver weighed on Monday.

With European equity markets down on contagion from British lender Northern Rock , markets in central and eastern Europe and the Middle East all trailed lower.

The Istanbul Stock Exhange lost 1.21 percent and the Budapest Stock Exhange was down 1.14 percent, while the Hungarian forint was the worst performing currency in the region, down half a percent.

The MSCI emerging equities index fell 0.67 percent from Friday's levels to trade at 1100.90 although emerging debt indices were flat from the New York close, with the spread on the JPMorgan EMBI-plus at 222 basis points.

While most of the emerging markets universe is sitting on capital surpluses and may act as safe-havens if there is more contagion from credit crunch in the developed world, countries like Turkey, South Africa, Hungary and Romania have large imbalances.

That said, in many cases yields remain attractive.

"It is very difficult to argue 17.5 percent interest rates (in Turkey) is inappropriate (in terms of risk-reward)," said Matthew Vogel, strategist at Barclays Capital.

Last week most in the market had expected the Federal Reserve to cut its policy rate by 50 basis-points on Tuesday, but those expectations have been scaled back to a more modest 25 points by the start of this week.

Barclays' Vogel said that, so far, U.S. equities had withstood the credit crunch originating in the sub-prime mortgage market and provided they continued to hold up so would emerging markets.

"The U.S. equity market is a very critical piece in this puzzle," he said.

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