Brazil can’t seem to catch a break these days. While hosting this year’s FIFA World Cup, its soccer team was trounced by the Germans in a staggering — and unprecedented — 7–1 loss in a championship that saw Brazil defeated at home for the first time in nearly 40 years. The squad that had been widely favored to win finished in fourth place and held the distinction of being the one that gave up the most goals (14).
The outcome cast a pall when many hoped it would bring a ray of sunshine to a country whose economy was faltering and its citizenry protesting. Brazil’s real gross domestic product expanded by just 0.4 percent in fourth-quarter 2013, then decelerated to 0.2 percent in the first three months of this year — and it has been downhill ever since.
“Economic sentiment has deteriorated in recent months, as reflected by the important decline in both business and consumer confidence indicators,” affirms Rodrigo Góes, São Paulo–based director of equity research, sales and trading at BTG Pactual. “While these are not perfect proxies for broader economic activity, other available high-frequency data and qualitative measures signaling excessive inventories in a number of industrial sectors mean that there is, indeed, a meaningful chance of more than one contraction in quarterly GDP this year.”
In July the International Monetary Fund lowered its forecast for the nation’s economic expansion from 1.9 percent to 1.3 percent this year and from 2.6 percent to 2 percent in 2015, figures that some market observers believe are still too optimistic.
“Our economics team recently cut our forecasts to 0.6 percent real growth for 2014 and 1.5 percent for 2015,” reports Emerson Leite, co-head (with Edward Weaver) of Latin American equity research at Credit Suisse in São Paulo.
The figures from BTG Pactual are slightly higher — for now. “Our forecast is 1.1 percent for 2014 and 1.8 percent for 2015,” Góes says. “We review these forecasts quarterly, and the next revision will be in late August, once we get GDP results for the second quarter. Judging from leading and coincident indicators, we expect to downgrade both numbers, especially 2014’s.”
Still, there are some encouraging signs. Brazil’s stock market advanced nearly 10 percent, in dollar terms, in the first seven months of the year, outperforming emerging markets and the S&P 500, and many Brazil watchers believe that output will accelerate later this year, after October’s national elections.
To help ensure that their portfolios are well positioned when the economy revs up again, money managers often seek guidance from the sell side. The firm that provides the insights that investors find most helpful is BTG Pactual, which leads Institutional Investor’s All-Brazil Research Team for a third consecutive year. Its analysts earn a place in every one of the survey’s 18 sectors that produced publishable results — and win the top spots in eight of them. Itaú BBA repeats at No. 2 with 16 positions, including three sector-topping performances, while Credit Suisse holds steady in third place with 12 spots for a second straight year. Its analysts are deemed the best in five categories.
With 11 places each, two firms share the fourth tier: Bank of America Merrill Lynch, whose rank is unchanged even though its total increases by two, and J.P. Morgan, which leaps from seventh place after picking up five positions.
HSBC debuts at No. 7, capturing six positions.
These results reflect the opinions of more than 650 buy-side analysts and money managers at 366 institutions that oversee an estimated $234 billion in Brazilian equities and $140 billion in Brazilian debt.
Itaú BBA’s Ilan Goldfajn, who captures first place for a second straight year in Economics, is among those who see cause for optimism. “The first half of the year has been weak for the economy. This was particularly acute in manufacturing production and durable-goods sales, and GDP probably fell in the second quarter,” the São Paulo–based economist contends. “However, the unemployment rate and, consequently, real wages have been much less affected so far, which gives support for consumption. We expect the second half to be better than the first in terms of growth.”
Not all industries will perform equally well, notes Guilherme Paiva, No. 1 in Equity Strategy for a fourth consecutive year. Education, infrastructure and technology are likely outperformers, the Morgan Stanley strategist believes. “What these three sectors have in common is their key role in improving the long-term growth prospects of the country,” says Paiva, who works out of New York. “For instance, infrastructure and technology are important to improve the return of capital invested, while education is crucial to increase labor productivity.”
Many analysts are less upbeat about the near-term prospects of the nation’s manufacturers. Just weeks after its World Cup disappointment, Brazil experienced another shock when neighbor and trading partner Argentina defaulted on its public debt.
“Argentina is an important market for Brazilian exports,” Credit Suisse’s Leite observes. “It’s the third main destination, after China and the U.S., and it’s actually the largest market for Brazil’s manufactured goods.”
Its neighbor’s fiscal woes have been affecting Brazil for some time, according to São Paulo–based Bruno Savaris, who rises from second place to first in Capital Goods and also leaps from runner-up to champion in Transportation. In the first seven months of 2014, “car exports from Brazil are down 37 percent year-over-year, and more than 80 percent of those exports used to be channeled to Argentina,” the Credit Suisse analyst explains. “There could be a marginal negative impact [following the default], but most of it has been taking place already.”
His advice? “I recommend investors look at companies that could benefit from the real depreciation and from greater demand from markets, such as those in the North America Free Trade Agreement and Europe, that are showing some recovery,” he responds.
Also in July, Brazil’s central bank left its benchmark Selic rate unchanged at 11 percent and signaled that it didn’t plan any cuts this year, suggesting that debt instruments will continue to attract investors even if Brazilian equities do not. That same month the government sold $3.5 billion in dollar-denominated 30-year bonds and said it would use the money to buy back shorter-term obligations.
“The Treasury’s idea is to keep developing the yield curve in dollars, so as to set a benchmark for external financing by Brazilian institutions,” notes Itaú BBA’s Ciro Matuo, No. 1 in Corporate Debt for a fourth year running.
“On the corporate debt side, we welcome the government commitment to maintain the dollar-denominated benchmark curve, and investors are likely to maintain their interest in the opportunities coming out of Brazil,” the São Paulo–based strategist adds. “Lower liquidity will perhaps call for a more selective approach going forward, but Brazilian corporates are likely to remain a core holding for emerging-markets and Latin America–dedicated portfolio managers.”
Investors are showing a keen interest in October’s presidential contest and have high expectations of the winner, whether President Dilma Rousseff is reelected or is succeeded by one of her many challengers.
“Domestic and international investors hope for a stronger Brazilian economy that can grow at a faster pace over the next four years,” contends Morgan Stanley’s Paiva. “They would like to see a correct set of macro policies that fulfills these objectives without generating imbalances or vulnerabilities. Therefore, they hope whoever gets elected in October will help the country fulfill its potential.”
If that fails to happen, the investment environment is likely to look very different. “Both domestic and global investors will rush back into Brazilian equities in case a candidate committed to important changes to the country’s economic policies wins the next presidential election,” BTG Pactual’s Góes asserts. “In case not, local investors may gradually return by carefully selecting stocks that offer particularly good opportunities, but global investors may stay away from Brazil for a longer period of time.”
Follow Thomas W. Johnson on Twitter at @tjohnson_NYC.
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