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Have Brazilian Stocks Finally Hit Bottom?

Simeon Hyman

Emerging markets stocks this year have underperformed pretty much across the board, losing roughly 10 percent of their value. Brazilian stocks have been especially disappointing.

Its Ibovespa index is down more than 20 percent since Jan. 1, giving it the dubious distinction of being the worst performer among the world's 20 largest stock indexes. By comparison, the Standard & Poor's 500 index has been up more than 21 percent, and gains on Japan's Topix index exceed 41 percent.

Brazil's plunge is prompting some investors to consider whether stocks there have bottomed out -- and whether they might be poised for a rebound.

The best way to answer that may be with some perspective on the multiple events that led Brazil to this situation. In the middle of 2012, the country faced an unfortunate -- even bizarre -- combination of rising food prices and falling energy prices. Food prices went up in part because of the severe drought in the United States. Energy prices were driven down by global-growth concerns, an especially painful blow to Brazil's sizeable energy sector. As a result of these two forces, Brazilian corporate earnings plummeted, dragging stock prices down with them.

The Brazilian central bank moved to revive the economy by lowering interest rates to help resuscitate GDP, which was a paltry 0.87 percent in 2012 (down from 7.6 percent in 2010). That action backfired, and inflation -- a long-standing scourge of Latin America economies -- climbed from just under 5 percent last year toward 7 percent more recently, pushing the central bank to reverse course and raise rates.

Higher prices and higher interest rates have prompted huge public protests, disrupting the markets and highlighting the long road Brazil still has to travel to become a stable developed economy. Put another way, the country has yet to earn the distinction of being a safer investment than the standard emerging market, which by definition faces greater risks -- political risk included -- than developed markets.

And even though food prices have dropped, inflation continues to rise, suggesting that there are deeper, structural inflation-related tendencies in the Brazilian economy. Equally badly affected are corporations, whose bottom lines are being affected by slow economic growth and higher inflation.

Brazil, of course, is also intertwined with the global economy. When the U.S. Federal Reserve made noises that tighter monetary policy may be on the horizon, Brazil's central bank listened. A tightening of monetary policy in the U.S. would likely push rates even higher in Brazil by pressing the Brazilian central bank to follow suit. And China's slowing growth and monetary tightening has helped keep a lid on global energy and materials prices, which affect Brazil disproportionately because so much of its economy is natural-resource based.

It's not a pretty picture.

However, investors looking for an event to mark the bottom of the market in Brazil might finally have one in sight in the potential default of a large petroleum company on its corporate debt. If such a company defaults, it would be the largest ever in Latin America, and it could be exactly the kind of event that a contrarian trader might point to as a signal that things can only get better.

That said, longer-term investors might do well to wait for a few signs of actual recovery before jumping in, even if that means missing the absolute bottom of the market. And those more consistent and concrete signs might still lie many quarters into the future.

Simeon Hyman is Chief Investment Officer of BloombergBlack, a new service available by invitation to affluent investors looking for a smart, easy way to take control of their personal wealth. To request an invite for a free 60-day trial, visit BloombergBlack.

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