Brazil gets a vote of confidence

April 7, 2015

Boys play soccer on a driftwood soccer court, on the banks of the Rio Negro or Black River in Catalao community near Manaus

Shorting Brazil is no longer the favorite sport of analysts and traders, judging by recent market trends and comments.

After months of successive downgrades to Brazil’s once-promising economic outlook, local assets have rallied on growing optimism about the belt-tightening policies led by Finance Ministry Joaquim Levy.

Shares trade at their highest level since early December, while Brazil’s currency, the real, halted a three-month-long decline and steadied near the 3-per-dollar mark.

This may be the first concrete sign that Brazil’s recent austerity drive will eventually pay off, as Levy hopes: all his bets are on the effects of greater fiscal discipline on business confidence, which he says could underpin an economic recovery by year-end.

Many things can still go wrong, of course, as Brazil’s heads to its worst recession in 25 years. Still, the ceasefire in Brazilian financial markets is the first since Rousseff won a narrow re-election in October last year, suggesting investors are slowly reassessing opportunities in Latin America’s largest economy.

For a start, fears that a belligerent Congress could water down Levy’s measures have eased, according to Eurasia:

“Levy has demonstrated that he is an able political operative, an assessment that bolsters our view that the fiscal adjustment remains largely on track despite the political fallout between President Dilma Rousseff and her coalition partners,” they wrote in a note.

Brazilian companies have also largely escaped the worst from the ongoing economic downturn, according to Q4 earnings reports. Investment bank Itau BBA’s sales team wrote:

“Based on the 98 companies that we monitored the results in Brazil, our overall reading was that results were more positive than negative with 39 percent of the companies reporting positive numbers, while only 18 percent presented negative surprises.”

“We believe that there will be more news in the upcoming months that is not fully priced in (e.g., Petrobras’ audited balance sheet, approval of fiscal measures, lower currency volatility, postponement of energy and water rationing), which could continue to push a short-term rally.”

BofAML strategists share the same sentiment:

“We spent the last two weeks meeting investors in Europe and the U.S., visiting fixed income and equity investors… Our perception is that investors we met were overall more constructive on Brazil.”

On the macro agenda, economists polled by Reuters expect inflation data to climb above 8 percent in data due to be reported this week. But that should be the last major leap higher, economists say; from then on, inflation results are likely to peak and gradually ease through 2016, thanks to a string of interest rate rate hikes by the central bank.

For now, hope has only reached financial markets: consumer and business sentiment keep plunging month by month, and job losses have mounted. They will eventually bottom out – but only if this new-found market optimism lasts.

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