Brazil: Getting the party started?
Following a formidable rally at the back end of last year, we expect Brazil to develop into one of the big stories of 2019. For the last thirty years, Brazil has been nothing short of mayhem: persistent high inflation, the almost-default in the early 2000s and most recently the controversial 2018 general election. It’s always been a fixed income only story, due to high interest rates setting an unobtainable high hurdle rate for equities to meet. Does there exist a possibility now, that Brazil becomes an equity, and even credit story?
On the back of the last three years’ economic collapse, inflation has come off significantly and the output gap continues to be quite large. The new government is keen to pass social security reforms to overhaul Brazil’s costly state pension system and alleviate the budget deficit. Although the reform plans have been contentious, our view is that the government has a window right now to pass the reforms, with the probability of there being no reform quite low.
If inflation remains lower, the central bank would stay put on nominal rates and some reforms would pass. Borrowing Brazilian Real and repaying some external debt would then become quite attractive for corporates. There is a reasonable probability that Brazil becomes an equity and credit story.
The risks to this view are that the view on inflation is wrong, reforms aren’t passed, and other general global risks. On the whole, we think Brazil looks like a compelling story.
Author: Bart Turtelboom