Brazil is in a sweet spot to attract new funds now.
With about 50 million acres of arable land (that’s about 1,500 Walt Disney Worlds), a young population of over 100 million inhabitants and a GDP easily over $1 trillion, Brazil ranks alongside China, the U.S., Russia and India as a major economy.
And it’s still expanding. In fact, Brazil’s economy is poised to overtake France’s, Britain’s and Germany’s by the end of President Dilma Rousseff’s administration.
But that size and global integration is also becoming a mixed blessing on two levels and may be giving some investors pause. Ultimately, however, knowing the full picture can help us be better-positioned to take advantage of opportunities that others might overlook … one of which we’ll get to in just a moment.
Mixed Blessing No. 1: By some measures, the Brazilian real is still the world’s most-overvalued currency, and many local factories aren’t competitive in global markets.
So it should not come as a surprise, then, that this week the government announced that its economic growth has stalled. It grew 2.1% from the same period a year ago, and growth forecasts for next year are now in the 3.5% to 4% range.
This is still a lot healthier than the developed economies. In contrast, the United States will grow 1.6% next year, by International Monetary Fund estimates.
Mixed Blessing No. 2: Another concern is capital repatriation by Brazilian multinational companies. Brazilian direct investment is traditionally negative, showing an outflow of capital from Brazilian multinationals to their branches abroad. Between January and September 2010, for example, the cumulative outflow was nearly $6 billion, according to the central bank.
But the trend has massively reversed. In the same period in 2011, the central bank registered an inflow of more than $10 billion. Roberto Messenberg, with the Brazilian government-linked economic research institute Ipea, says that after discounting all this investment reallocation, foreign direct investment (FDI) estimates are much worse than the official figures.
It should also then come as no surprise that the Brazilian government changed direction this week.
As of Dec. 1, 2011, the Brazilian government decided to attract and foster the return of foreign investors to its market by eliminating the 6% financial transactions tax on foreign investments in shares and private securities.
Why? The net purchases of foreign investors in Brazil year-to-date basically stopped this year.
And more importantly, today’s slower-growth, lower-inflation environment is giving Brazil’s central bank additional flexibility to cut interest rates. On November 30, it cut rates to 11%, with some economists forecasting this rate could fall to 9% in 2012 with moderate adjustments.
What’s also changed is that it’s clear now that there will be no crash, but there is an inevitable trend of contraction in global activity in the coming months.
This Is an Ideal Environment
for Brazilian Bankers. Here’s Why …
Brazil’s banking sector should still be able to increase loans by about two to three times real GDP growth (from previously three to four times GDP growth) over the medium term, driven by several reasons:
• Ongoing strong demand for consumer loans is expected, given A) the increase in employment levels, overall wage expansion and a rising middle class (from 39% in 2004 to 55% in 2010), driven by sound real GDP growth per capita, as well as B) potentially lower rates on consumer loans due to lower credit spreads from the effects of the positive credit bureau and the structural shift away from unsecured to secured loans.
• A large pipeline of state infrastructure projects and a continued flow of private investments should continuously support commercial loan growth in the corporate and middle market.
• The penetration of banking products is still rather low in Brazil with loans to GDP at around 47% versus 102% in the United States.
Moreover, Brazil stands out for not having a developed mortgage market in comparison to its two main Latin American peers, Chile and Mexico. The main reasons for the undeveloped mortgage market in Brazil stem from the 1980s and 1990s, when the country struggled with hyperinflation that complicated the development of long-term contracts and, hence, of the mortgage market.
Although insurance products are widely distributed through the banking sector, they too remain underpenetrated with a ratio of premiums to GDP of 3.1% in Brazil, compared to 7.9% in North America and 6.1% in Asia. Banks that comprise large insurance operations should benefit the most with increasing penetration of insurance products.
My Top Pick in the Brazilian
Banking Sector Is …
As readers of Emerging Market Winners know, my favorite Brazilian bank is Banco Bradesco (BBD).
For more than a decade, BBD has ranked as one of the most-profitable Brazilian banks. And it’s one that can reward investors handsomely.
The consistent loan portfolio growth, coupled with the firm net interest margin and strong asset quality has enabled Banco Bradesco to post more than a 20% return on average equity in each of the last five years.
Furthermore, with a strong cushioning from the insurance segment, BBD is well-placed to generate steady returns for the stockholders, even in a volatile interest-rate scenario. Plus it carries an attractive 3.9% yield.
I’m keeping my subscribers updated on BBD and a number of other global plays that are set to explode higher. To be among the first to get my alerts with the best time to establish new positions, when to cash out and when news happens that could propel these positions upward, become a member of my Emerging Market Winners service. It’s easy — get started here today!
So my take on all the recent debt issues in Europe and downgrades is that the flight to quality among investors will benefit strong emerging economies and that lower interest rates will create a new internally driven stimulus for emerging-market consumers.
Brazilian bankers should certainly have a great year and their shareholders too!
P.S. Worried investors who sell their shares and drive prices lower do us a big favor by letting us own emerging-market leaders at holiday-sale prices. Find out how you can turn their short-term pain into your longer-term gains by taking my Emerging Market Winners service for a test drive today!