by Jörg Billina, Euro on Sunday
In the table of the world’s best financial centers, Brazil ranks high. Since the beginning of the year, the iShares MSCI Brazil ETF has gained 24 percent – although the Banco Central do Brazil is tightening interest rates more than almost any other central bank. In just 14 months, it raised the key interest rate from two to 12.75 percent.
Nevertheless, central bank head Roberto Campos Neto has not yet managed to get inflation under control. In May, an inflation rate of almost twelve percent was measured compared to the same month last year. As in other countries, fuel and food have become massively more expensive. However, in comparison to the industrialized countries, the citizens of the emerging market country Brazil feel the loss of purchasing power much more severely. The middle class is crumbling, fear of financial decline is growing. Two figures illustrate the drama: According to the Brazilian research network for food security and sovereignty, 125 million people no longer have complete and permanent access to food. And just one tank of fuel eats up 33 percent of the monthly income of low-income households.
Foreign trade, on the other hand, is benefiting from the global rise in prices for raw materials and agricultural products. Brazil is one of the leading exporters of oilbauxite, gold, iron ore, manganese, nickel, phosphate, platinum, but also from soy, sugar, coffee, meat and cotton. Although export volume increased by only 3 percent, export earnings increased by 40 percent in the first quarter compared to the first three months of last year. A significant increase in the current account surplus is expected for 2022. The hitherto weak economy is also picking up. The IMF corrected its growth forecast for this year from 0.3 to 0.8 percent.
The price development on the commodity markets drives the stock exchange in São Paulo. Tactically oriented investors seize the opportunity. The energy, materials and agriculture sectors are weighted at 45 percent in the MSCI Brazil. “The share in the profit development is even greater,” says Elke Speidel-Walz, emerging market expert at DWS.
In particular, large-cap stocks from the three sectors are in demand. Iron ore producer Vale’s stock is up 15 percent since the beginning of the year, while oil giant Petroleo Brasileiro is up 17 percent. JBS, the world’s largest meat producer, achieved eight percent. Despite the gain in price, the 49 companies included in the iShares MSCI Brazil ETF have an average year-to-date price-to-earnings ratio of just 5.6.
According to some analysts, the favorable valuations are another reason to buy, even if Brazil’s central bank, contrary to its original intentions, will probably have to continue its restrictive monetary policy course for a while longer, according to Speidel-Walz. In the meantime, a wage-price spiral has started. Brazil’s unions are demanding higher wages to compensate for the loss of purchasing power. The employees of the Banco do Brazil also want more money. They rejected a first offer of five percent. Now the head of the central bank, Neto, is offering them 22 percent more. But the employees only want to be satisfied with an increase of 27 percent.
Inflation – this is also the dominant theme of the presidential election campaign, which is being followed with great interest by investors. On October 2, Brazil’s citizens will decide whether right-wing politician Jair Bolsonaro will govern for another four years or whether former President Lula da Silva of the left-wing workers’ party Partido dos Trabalhadores (PT) will celebrate a comeback. During his tenure from 2003 to 2010, many people managed to move up into the middle class thanks to comprehensive socio-political measures. The economy was booming, and the Brazilian stock market rose sharply at the time. Lula left office with an approval rating of 87 percent.
Much promised, little achieved
It is a choice of direction: Two different economic policy concepts are competing for majorities. Four years ago, Bolsonaro scored with investors with his neoliberal agenda: Less government, deregulation, privatization and a reduction in bureaucracy were intended to give Brazil’s economy new impetus. His declaration of war on the widespread corruption in the country was initially well received by investors. “However, Bolsonaro has implemented little or none of his liberal reform promises,” says Speidel-Walz. At best, one can rate positively the ban on government spending that has been newly anchored in the constitution. This is urgently needed. Brazil currently owes more than 90 percent of its gross domestic product. The rating agency S & P only rates the creditworthiness as non-investment grade.
“Bolsonaro has not stuck to the politically hard-won spending limit (spending should not rise more than the inflation rate), but has also expanded social benefits with the aim of improving his fallen popularity ratings. However, the sharp rise in social spending and higher wages have the demand so inflamed that the central bank is unable to bring inflation under control, despite the very restrictive course it took in good time,” says Speidel-Walz.
In particular, the inadequate management of the Corona crisis – the country complains of more than 600,000 deaths – and his radical rhetoric have damaged Bolsonaro. In the current polls, he is well behind Lula da Silva. Investors’ skepticism about Bolsonaro has also increased significantly.
No correction
The 76-year-old Lula is also campaigning for votes with higher social spending. But the political professional is aware that he also has to convince moderate voters and that he needs the support of business. For this reason he has appointed Gerardo Alckmin, who is valued in business circles, as his vice-presidential candidate. The three-time governor of the state of São Paulo stands for a market-friendly course.
It is therefore unclear whether a victory for Lula will trigger a correction on the stock market. Speidel-Walz can also imagine a short-term rally. “However, in order to make the stock market attractive not only for tactical but also for long-term investors, the government would have to find the strength for a comprehensive fiscal reform and a new growth policy,” says Speidel-Watz. However, the expert is skeptical as to whether Brazil’s growth problems can be solved in the next legislative period.
INVESTOR INFO
The iShares MSCI Brazil ETF physically tracks the performance of the MSCI Brazil. Iron ore producer Vale, oil giant Petrobras and meat producer JBS are heavily weighted. Financial stocks such as Bank Itau Unibanco and Banco Bradesco are among the top ten stocks. The top ten stocks account for almost 60 percent of the ETF’s volume. The ETF lost nine percent over a three-year period, and despite losses in the past week it has gained 24 percent since the beginning of the year.
The fund DWS Brazilian Equities is advised by Itau USA. In addition to commodity stocks and banks, the ten most heavily weighted stocks also include IT companies such as Totvs SA and stocks from the consumer sector such as Lojas Renner. Active management pays off in the long run. In the past three years, the fund has achieved almost 18 percent, in five years it will reach 98 percent. The fund is suitable for bold investors to add to it.
With the HSBC MSCI EM Latin America ETF, investors participate in the performance of stocks with medium and high market capitalization. Brazilian companies are weighted at 60 percent, Mexican companies such as Walmart Mexico or América Móvil at 25 percent. The rest is distributed among companies from Colombia, Peru and Chile. Since the beginning of the year, the ETF has gained 22 percent. Despite the broad diversification, only risk-averse investors invest.
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Image sources: Filipe Matos Frazao / Shutterstock.com, Filipe Frazao / Shutterstock.com
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