As Brazil’s election heads to a runoff, the country’s fundamentals remain solid
The upcoming runoff election in Brazil could introduce some near-term volatility for Brazilian debt, but cooling inflation and strong economic growth could still paint a compelling picture for investors.
After President Jair Bolsonaro’s surprisingly strong showing in Brazil’s recent presidential election, the race will continue on to a runoff vote on October 30 against rival Luiz Inácio Lula da Silva. Given the vast differences between the candidates’ platforms when it comes to proposed socioeconomical policies, fiscal policy, and other related programs, the decision reached at the end of the month could have a significant impact on the trajectory of Brazilian assets.
In the near term, uncertainty in the next few weeks leading up to the election could cause some price volatility as investors digest new poll information. Despite these nearer-term bumps in the pavement, we feel that the road ahead for Brazil looks promising.
Brazil's central bank is ahead of the curve
Beginning last year, Banco Central do Brasil (BCB) embarked on a decisive tightening cycle, challenging the transitory inflation narrative ahead of many other central banks across both developed and emerging markets. Since early 2021, the Selic rate (BCB’s overnight lending rate) was increased by a staggering 11.75% before the central bank decided to maintain the rate of 13.75% at the September meeting.
In its communication, BCB highlighted its commitment to stay vigilant, ‘’assessing if the strategy of maintaining the Selic rate for a sufficiently long period will be enough to ensure the convergence of inflation.’’ For now, the effect of the central bank’s action on inflationary dynamics is evident, with month-over-month inflation cooling since July’s negative print of –0.68% followed by August’s –0.36%; the year-over-year measure has also fallen from recent double-digit highs.
Inflation has come off the boil in Brazil
Brazil CPI, September 2018–August 2022 (YoY %)
Source: Bloomberg, September 2022.
This aggressive action by BCB has allowed the Brazilian real to be one of the few currencies to climb against the U.S. dollar (USD) year to date. The dollar’s surge relative to most currencies has pressured many pockets of the global economy, including emerging-market sovereigns’ ability to service USD-denominated debt. Here, Brazil stands apart from the rest as, so far, its currency strength relative to the dollar shields it from ballooning debt payments.
The BRL is one of the few global currencies that has held its own vs. the USD
USD/BRL exchange rate, January 2022–September 2022
Source: U.S. Federal Reserve, October 2022. BRL refers to the Brazilian real. USD refers to the U.S. dollar.
Whether or not this trend continues depends on the U.S. macroeconomic trajectory and the U.S. Federal Reserve’s monetary policy reaction function. However, BCB’s choice to commit to a tightening cycle ahead of its emerging-market peers has placed the country in a favorable position as central banks and governments around the world now battle to tame inflation.
Growth outlook is brightening
Brazil’s domestic growth outlook has proven to be resilient with Q2 GDP surpassing expectations and estimates for future growth being revised upward. The economic growth data suggests that the economy continues to expand, although at a more subdued pace. Data on the labor market remains compelling as well, showing continued expansion and suggesting that we may soon see the unemployment rate coming off of double-digit highs.
As home to several key global champion corporations—dynamic, high-growth companies that find their core business growing both domestically and abroad—the country also remains well positioned from a credit selection perspective. Countries such as Brazil with domestically driven economies tend to be better insulated against challenging macroeconomic backdrops such as the one we’re currently experiencing. Long-term demographic trends can also serve to provide a boost to sectors such as telecommunications, as mobile and data usage increases across the country.
A sustainability shift
Given geopolitical rumblings and their effects on commodity prices this year, it’s no surprise that nations across the globe have expedited their transition to more sustainable energy policies. With the Latin America region heavily dependent on natural resources, countries such as Brazil that are plugged into the transition to next-generation policies could be well positioned for the future. In addition to being a large agricultural exporter, Brazil possesses valuable metals, such as lithium, used in decarbonization technologies. This further enhances the thesis for owning Brazilian debt.
Indeed, from a sustainability point of view, we believe Brazil has the potential to become a leader in the global carbon credit market, having recently established a framework for implementing a robust emissions trading system as well as a system for registering carbon credits; however, this path is dependent on whether supportive government policies are put in place. Mr. Lula’s agenda has embraced green measures, such as working toward net zero deforestation and increasing investment in renewable energy. In contrast, we think Mr. Bolsonaro’s presidency has shown him to be critical of climate science and willing to disregard environmental regulations.
Energy policy in particular is one area that we’re closely watching as the outcome of the election could have a significant impact going forward. Although the close nature of the election leaves room for some price volatility in the coming weeks, this uncertainty comes against a strong fundamental backdrop that affirms our favorable view of the country’s fixed-income markets.
A widespread health crisis such as a global pandemic could cause substantial market volatility, exchange-trading suspensions and closures, and affect portfolio performance. For example, the novel coronavirus disease (COVID-19) has resulted in significant disruptions to global business activity. The impact of a health crisis and other epidemics and pandemics that may arise in the future, could affect the global economy in ways that cannot necessarily be foreseen at the present time. A health crisis may exacerbate other pre-existing political, social and economic risks. Any such impact could adversely affect the portfolio’s performance, resulting in losses to your investment
Investing involves risks, including the potential loss of principal. Financial markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. These risks are magnified for investments made in emerging markets. Currency risk is the risk that fluctuations in exchange rates may adversely affect the value of a portfolio’s investments.
The information provided does not take into account the suitability, investment objectives, financial situation, or particular needs of any specific person. You should consider the suitability of any type of investment for your circumstances and, if necessary, seek professional advice.
This material is intended for the exclusive use of recipients in jurisdictions who are allowed to receive the material under their applicable law. The opinions expressed are those of the author(s) and are subject to change without notice. Our investment teams may hold different views and make different investment decisions. These opinions may not necessarily reflect the views of Manulife Investment Management or its affiliates. The information and/or analysis contained in this material has been compiled or arrived at from sources believed to be reliable, but Manulife Investment Management does not make any representation as to their accuracy, correctness, usefulness, or completeness and does not accept liability for any loss arising from the use of the information and/or analysis contained. The information in this material may contain projections or other forward-looking statements regarding future events, targets, management discipline, or other expectations, and is only current as of the date indicated. The information in this document, including statements concerning financial market trends, are based on current market conditions, which will fluctuate and may be superseded by subsequent market events or for other reasons. Manulife Investment Management disclaims any responsibility to update such information.
Neither Manulife Investment Management or its affiliates, nor any of their directors, officers or employees shall assume any liability or responsibility for any direct or indirect loss or damage or any other consequence of any person acting or not acting in reliance on the information contained here. All overviews and commentary are intended to be general in nature and for current interest. While helpful, these overviews are no substitute for professional tax, investment or legal advice. Clients should seek professional advice for their particular situation. Neither Manulife, Manulife Investment Management, nor any of their affiliates or representatives is providing tax, investment or legal advice. This material was prepared solely for informational purposes, does not constitute a recommendation, professional advice, an offer or an invitation by or on behalf of Manulife Investment Management to any person to buy or sell any security or adopt any investment strategy, and is no indication of trading intent in any fund or account managed by Manulife Investment Management. No investment strategy or risk management technique can guarantee returns or eliminate risk in any market environment. Diversification or asset allocation does not guarantee a profit or protect against the risk of loss in any market. Unless otherwise specified, all data is sourced from Manulife Investment Management. Past performance does not guarantee future results.
Manulife Investment Management
Manulife Investment Management is the global wealth and asset management segment of Manulife Financial Corporation. We draw on more than a century of financial stewardship to partner with clients across our institutional, retail, and retirement businesses globally. Our specialist approach to money management includes the highly differentiated strategies of our fixed-income, specialized equity, multi-asset solutions, and private markets teams—along with access to specialized, unaffiliated asset managers from around the world through our multimanager model.
This material has not been reviewed by, is not registered with any securities or other regulatory authority, and may, where appropriate, be distributed by the following Manulife entities in their respective jurisdictions. Additional information about Manulife Investment Management may be found at manulifeim.com/institutional
Australia: Manulife Investment Management Timberland and Agriculture (Australasia) Pty Ltd, Manulife Investment Management (Hong Kong) Limited. Canada: Manulife Investment Management Limited, Manulife Investment Management Distributors Inc., Manulife Investment Management (North America) Limited, Manulife Investment Management Private Markets (Canada) Corp. Mainland China: Manulife Overseas Investment Fund Management (Shanghai) Limited Company. European Economic Area Manulife Investment Management (Ireland) Ltd. which is authorised and regulated by the Central Bank of Ireland Hong Kong: Manulife Investment Management (Hong Kong) Limited. Indonesia: PT Manulife Aset Manajemen Indonesia. Japan: Manulife Investment Management (Japan) Limited. Malaysia: Manulife Investment Management (M) Berhad 200801033087 (834424-U) Philippines: Manulife Investment Management and Trust Corporation. Singapore: Manulife Investment Management (Singapore) Pte. Ltd. (Company Registration No. 200709952G) South Korea: Manulife Investment Management (Hong Kong) Limited. Switzerland: Manulife IM (Switzerland) LLC. Taiwan: Manulife Investment Management (Taiwan) Co. Ltd. United Kingdom: Manulife Investment Management (Europe) Ltd. which is authorised and regulated by the Financial Conduct Authority United States: John Hancock Investment Management LLC, Manulife Investment Management (US) LLC, Manulife Investment Management Private Markets (US) LLC and Manulife Investment Management Timberland and Agriculture Inc. Vietnam: Manulife Investment Fund Management (Vietnam) Company Limited.
Manulife, Manulife Investment Management, Stylized M Design, and Manulife Investment Management & Stylized M Design are trademarks of The Manufacturers Life Insurance Company and are used by it, and by its affiliates under license.