Investors disagree over post-Rousseff Brazil

Demonstrating against RousseffExpectations for Brazil equity returns should President Dilma Rousseff be impeached are far from reaching a consensus following the rally in the country’s stock market this year.

The Brazilian equity market returned 34%, compared to 7% for emerging markets and 2% for global equities, according to Datastream figures up to April 18 and quoted by Baring Asset Management.

“In the near term, anticipation of [the impeachment] is bringing about a significant improvement in investor sentiment. With the level of perceived risk starting to recede, we are also starting to see the cost of capital come down,” said Mike Simpson, head of Latin America equities at Barings.

Brazil’s lower chamber of congress backed the impeachment proceedings on April 17, and it now seems “very improbable” that Rousseff – who has been engulfed by the Petrobras scandal – will manage to stay in office, Simpson said.

The president’s impeachment could end the “political paralysis and gridlock that has hindered the government for years” and is likely to see a new leadership pursue the structural and market-friendly reforms needed to reactivate business activity. Simpson added.

However, investors with a broader emerging market mandate do not all see it this way. James Syme, manager of the JOHCM Global Emerging Markets Opportunities Fund at JO Hambro, said that with or without Rousseff, Brazil is risky due to “dizzying valuations” following the rally and the low level of corporate earnings to sustain them, and also because scandals also surround the main candidates to replace the president.

“Even if President Rousseff is ultimately replaced, we think this toxic combination of heady stock valuations, corrupt politics and a sickly economy means investors should avoid Brazil,” said Syme, adding it was “fanciful to expect a new and clean broom to undertake painful but necessary economic reforms”.

Syme prefers China and India, which are supported by strong domestic demand, and certain East Asian economies.

Simpson, at Barings, says his strategy is to focus on quality Brazilian companies and recently added Banco do Brazil to his portfolio, which Simpson describes as the highest quality state-owned enterprise in Brazil.

Meanwhile, Barings’ own multi-asset strategy recently increased its exposure to Asia for the “first time in years”.

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