Revisiting Brazil

Conclusion: Favorable consumer trends have been positive for Brazilian credit expansion and growth. Also the real is likely to continue appreciating from here, despite accelerated intervention efforts from the Brazilian central bank.

We’ve been admittedly quiet on Brazil over past couple of weeks for the simple fact that there haven’t been any meaningful inflection points to report. We remain favorably disposed to the Bovespa due to Brazil’s defensive consumption growth which is supported by near all-time lows in unemployment, inflation that has slowed sequentially to an eight-month low in August (4.49% YoY), and a favorable interest rate environment that is fueling domestic credit expansion (no Selic rate hike expected through year-end).

 One data point that caught our eye was homebuiler debt offerings backed by homebuyer contracts and retail lease payments  that are on pace to reach 6 billion reais ($3.5B) this year, up 87.5% YoY, according to the Sao Paulo-based Capital Markets Corporation. Currently, YTD issuance is at 4.7 billion reais, up 47% from full-year 2009.

Demand for these bonds has been quite strong due to low vacancy rates driven by Brazil’s domestic growth. According to Jones Lang LaSalle, the office vacancy in Sao Paulo, Brazil’s largest city, is at a record low of 8.5%. That compares to 12% in Midtown Manhattan, up from 5.3% in June 2007. While we don’t support the idea of Brazil’s households and private sector levering up on real estate, we do remain confident in Brazil’s ability to grow and fuel the underlying demand needed to sustain robust growth in this segment of the Brazilian economy.

To tune of cautious optimism, a few “not-quite-red” flags have surfaced recently regarding the Brazilian consumer: 

  • Brazilian retail sales dropped sequentially in July (+10.9% YoY vs. +11.3% in June).
  • Consumer delinquencies rose 11.5% in August – the highest August reading since 2005.
  • While the headline FGV Consumer Confidence reading rose 70bps MoM in September, the future outlook index dropped 1.1% MoM to 111.6. 

Clearly, we’re nitpicking here, so we’ll take these marginal deteriorations with a grain of salt. Growth on the ground in Brazil remains strong, which caused the government to revise up their growth and inflation estimates recently (GDP up 70bps to 7.2%; and CPI up 13bps to 5.1%). We don’t put too much weight on government projections, as they are typically lagging or wrong, but we do agree this revision is warranted based on the recent string of positive economic data.

It remains to be seen, however, how the recent ascent of the real will affect Brazilian growth going forward. On one hand, the strong real restricts on the margin exports of manufactured goods. On the other hand, dollar debasement has fueled parabolic up-moves in the prices of many agricultural products and commodities. Roughly 50% of Brazil’s exports are commodities/basic materials, so they’ve been riding the recent wave of Fed-sponsored dollar debasement. Some of Brazil’s key commodity exports have benefited (three-month % change): 

  • Orange Juice – up 11.6%
  • Coffee – up 14.5%
  • Soybeans – up 18.4%
  • Copper – up 22.3%
  • Sugar – up 52% 

Clearly, these prices moves are positive for Brazilian farmers and miners. Despite this, the Brazilian central bank remains committed to slowing down appreciation of the real, which is up 10.2% versus the U.S. dollar since its May 25th low. The commitment stems from Brazilian Finance Minister Guido Mantega’s resolve to maintain favorable repatriation rates for Brazilian exporters. His commitment has been backed decisive action: in the YTD through August, the central bank has purchased $18.6 billion dollars – up 155% YoY though the same period! He’s even gone on record to suggest Brazil can use its sovereign wealth fund and/or issue debt to fund incremental dollar purchases.

Unfortunately for Mr. Mantega, we don’t think the Brazilian government checkbook is nearly as boundless as Mr. Bernanke’s printing press, so his efforts will likely do nothing more than to marginally slow the rate of real appreciation driven by fund flows to the country (see: Petrobras’ $70 billion share offering).

Darius Dale

Analyst

Revisiting Brazil - 1

 

Revisiting Brazil - 2