BOVESPA fights all odds to win gold medal in Brazil’s Olympic year!

^BVSP
Symbol Name Last Trade Price Change Change (%)

Events:

  • Bovespa hit a low of 38,031 on Jan 22, 2016 after reaching a high of 70,897 on Nov 19, 2010.
  • The fall was attributed to political corruption, an anaemic economy and weak commodity prices.
  • 63% surge in 2016 by Brazil’s benchmark ‘Bovespa’ [   ( ) ] put it on top of the best performing indices of the world.
  • A 21.9% gain by Real made it the best performing currency in 2016.

Key Indicators:

  • Impeachment proceedings of Dilma Rouseff, the 36th president of Brazil, began in late 2015.
  • Brazil CDS spiked past 500bps due to increased political uncertainty.
  • Bill Gross went contrarian by shorting the Brazil CDS, near its highs and covered his shorts in March 2016.
  • Brazil’s GDP shrank 3.5% in 2016, posting a worst-ever budget deficit.
  • Economists estimate GDP to grow at 0.5% in 2017.
  • Unemployment rate has risen to 11.8% and corporate bankruptcies & debt have been rising.
  • The inflation rate decreased from 10.71% to 6.29%.
  • Current overnight lending rate of 14% puts Brazilian interest rates amongst the highest in large economies.
  • Public Debt-to-GDP ratio is expected at 50.74 percent in 2017.
  • Brazil pays over 15 percent interest on its debt. That gives Brazil the fourth-highest interest burden in the world.
  • Financial sector constitutes 32.3% of the index led by ‘Banco Bradesco’ and ‘Itau Unibanco’.
  • Petrobras – the state owned oil company – constitutes 9.7% of the index.
  • Iron-ore major ‘Vale’ constitutes 10.56% of the index.
  • Social security spending accounts for 40% of the government’s primary spending.

Key Drivers of Bovespa:

  • Investor sentiment improved after the appointment of President Michael Temer in August 2016, on promises of fiscal prudence and political stability.
  • Investors have tacked on to Brazil government bonds which offer yields of 11.86% in a world where government bonds in developed markets are offering negative interest rates.
  • Brexit, Europe’s immigration crisis, China’s slowing growth engine and Brazil’s developed urban infrastructure has made Bovespa relatively attractive.
  • Petrobras [   ( ) ] climbed 141% in 2016 as global oil prices rebounded.
  • Vale [   ( ) ] posted a massive 130% gain in 2016 on the backdrop of doubling of iron-ore prices.
  • Banco Bradesco [   ( ) ]and Itau Banco [   ( ) ], which both constitute around 20% of the index, gained 93% and 33% respectively.

Financials:

VALE5.SA PETR3.SA ITUB4.SA BBDC4.SA
Name
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52 week Low
52 Week High
Earnings per Share
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Market Expectations:

  • EIA forecasts Brent crude oil prices to average $52 per barrel in 2017 with current prices hovering around the $55 mark. This could cap the rally in Petrobras.
  • As China reduces its over-capacity in steel and supply of iron-ore is ramped up. Vale, the world’s largest iron-ore producer, is expected to see a dip in its profits.
  • The average price of 62-percent iron ore is expected to fall to $54.7 per ton CFR China in 2017, a Reuters poll showed, down from the current price of $86.40.
  • A stronger dollar could lead to outflows as the US Fed is expected to hike interest rates 3-4 times in 2017.
  • High yielding 2045 government bonds are still superior to developed market bonds with yields between 5.5% and 5.7%.

Opinion:

The unpredictable nature of the Brazilian market would appear to make this a good market to opt for an active fund manager able to steer through the range of high and low-quality companies. However returns of active funds have been more volatile and worse overall than exchange traded funds (ETFs) tracking the MSCI Brazil index. A high Gini coefficient in the BOVESPA index constituents, compared to other Emerging market indices, reflects a higher level of unsystematic risk for active fund managers. This market presents a huge opportunity to any manager adept at carefully managing these risks.

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