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Brazil Finds a Sweet Spot Between Cheap Money and a Trade War

Matthew A. Winkler
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Brazil Finds a Sweet Spot Between Cheap Money and a Trade War

(Bloomberg Opinion) -- When Brazil’s benchmark Ibovespa stock index reached a record on July 10, it was a milestone that few predicted. A 26% return over the previous year has made the country the top emerging market, beating 32 others that lost 7% collectively. The performance was even more impressive considering Brazil’s economy is barely growing at a 0.9% annual pace.

Defying skeptics, Brazil is taking advantage of a rare sweet spot, benefiting from unprecedented favorable interest rates, retreating inflation and the trade war between the U.S. and China. While much of the world is focusing on thousands of fires in the Amazon and President Jair Bolsonaro’s response to them, Latin America’s largest economy and its historically malnourished shareholders are at a turning point.

The growing appetite for stocks is buoyed by the lowest cost of money in modern times. Investors are starved for something more fruitful than debt’s diminished returns as global bond yields trend lower — or increasingly negative — and when the government is winning support for previously unpopular pension reforms, which would raise the retirement age for many Brazilians and curb obligations. The reforms are expected to bring savings of more than 900 billion reais ($227 billion) over a decade.

“Pension funds in Brazil,” which habitually clipped coupons in the bond market because rates were so much higher, “will put more than $20 billion in equity markets in the next three years,” something  “that’s never happened before,” Joao Luiz Braga said. He should know. His $550 million XP Long Biased fund returned 279% over the past five years, crushing the 60% from the Ibovespa. The bond market during this period returned 33% as measured by the Bloomberg Barclays Brazil Total Return Index.

The changing investor behavior amounts to  “a paradigm shift,” the 39-year-old Braga said during a “Buy Side” conference at Bloomberg’s Sao Paulo office earlier this month. The bonus of low worldwide interest rates during the anemic recovery from Brazil’s 2015-2016 recession “is a very, very, very good scenario” as rates in Brazil are likely to remain “low for a very long time,” he said.

When Brazil’s central bank cut its benchmark rate to 6% in July, it was the nation’s lowest lending rate since such figures were collected in 1999 and well below any rate in preceding decades, according to data compiled by Bloomberg. The country of almost 211 million people has an improving profile with investors because its financing cost is the lowest on record and its growth is forecast to lead No. 2 Mexico and No. 3 Argentina in Latin America, with gross domestic product gains of 2.1% in 2020 and 2.5% in 2021, according to 35 economists surveyed by Bloomberg.

While the same economists expect GDP to increase greater at first in Chile, Colombia and Peru, they predict Brazil will experience the most acceleration through 2021. Moreover, inflation in Brazil will remain below 4% until 2021 after falling more than half to 3.66% in 2018 from 2016, widening the advantage of its lower cost of living with the rest of Latin America to 5.3 percentage points, according to data compiled by Bloomberg.

As the Amazon fires demonstrate, however, the political situation in Brazil — and the fires themselves — could change the trajectory of the economy. Bolsonaro, though, has shown no inclination to abandon his pro-development policies.    

Bolsonaro has drawn praise from U.S. President Donald Trump, whose trade war with China is working in Bolsonaro’s favor. Brazil’s exports to China increased 20% in April from the same month in 2018 while U.S. exports to China declined 26%, according to data compiled by Bloomberg. That’s part of a longer term trend. During the five years between 2013 and 2018, China’s annual imports from Brazil increased 43% to $76.9 billion while China’s imports from the U.S. increased 6% to $156 billion, according to data compiled by Bloomberg. At the same time, Brazil’s trade with the U.S. fell to $62 billion from $66 billion.

Combine all those factors, and Brazil’s relative strength helps explain why its publicly traded companies are the top contributors to the MSCI Emerging Markets Index over the past 12 months and why debt issued by Brazil and its companies are second to China with a 19% total return among 86 emerging markets, according to data compiled by Bloomberg. Not since 2014 has global investor confidence in Brazil been so high, with $29 billion invested in Brazilian securities among the $3.4 trillion of U.S. exchange-traded funds. While the amount is relatively small, the number of shares held by these ETFs increased 26 times between 2015 and April, and the rally will most likely resume when the pension reforms become law.

That will be just the latest data point in a growing preference for stocks in Brazil.

“The Brazilian equity industry here is actually new,” Braga said. “I live by this advantage.”

--With assistance from Shin Pei.

To contact the author of this story: Matthew A. Winkler at mwinkler@bloomberg.net

To contact the editor responsible for this story: Daniel Niemi at dniemi1@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Matthew A. Winkler is a Bloomberg Opinion columnist. He is the editor-in-chief emeritus of Bloomberg News.

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