Foreign investors may be forgiven for turning their capital away from Brazil: the country’s macroeconomic data continues to disappoint, with gross domestic product (GDP) growing by only 1% last year and by a forecasted 2.4% this year. On top of this, the BM&F Bovespa stock exchange dropped nearly 30% in the first half of 2013; and the exchange rate against the US dollar has dropped by about 20% since the beginning of the year. At the same time, international investors are being distracted by the growing appeal of other Latin American economies, such as Mexico and Colombia, whose economies and capital markets are developing rapidly.
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“This particular period of time is one in which not many international players are looking at Brazil,” says Gustavo Franco, former president of Brazil’s central bank and the founder of Rio Bravo, a Rio de Janeiro-based investment firm that has 11bn reais ($4.9bn) in assets under management. “Only the contrarians are looking at Brazil or those that had been thinking of [investing] in the country for some time, but only now see an opportunity because of lower prices.”
Jairo Loureiro, partner and head of private equity at independent investment bank BR Partners, agrees. He says that big international firms are finding Brazil less attractive and are looking elsewhere. “Non-dollar-generating companies haven’t been able to appeal as much [as in the past]. Even if assets are performing well, they have to compensate for the heavier burden from the currency [because of the lower exchange against the dollar]. Large funds deploy mostly foreign capital, so this is an issue for them. What we see here is that some of these big funds are now also looking at other countries in Latin America, such as Mexico and Colombia,” he says.
Opportunities lurking
Changed conditions in the Brazilian market may have diverted some foreign capital, but the country's investment potential should not be underestimated. Private equity investments, for example, make up only a very small proportion of the country’s GDP compared with others. Despite record acquisitions by private equity funds last year, and the presence of giant investors such as Carlyle, General Atlantic and Blackstone, private equity investments make up 0.18% of GDP in Brazil. This compares with a figure almost six times higher in the UK at 1.05%, and the US’s 0.86%, according to data by private equity and venture capital associations in Brazil and Europe.
This is why a number of specialised investors in this alternative asset class are coming to life. Take the example of BR Partners; set up in 2010 to take advantage of a growing number of opportunities in private equity in Brazil, as well as offer investment banking services to the country's corporates. Mr Loureiro says the firm began investing 18 months ago, focusing on small companies in the logistics, technology and retail sectors.
Furthermore, there are plenty of opportunities for specialist investors on the stock exchange too. Victoire Brasil Investimentos, another local firm, was founded in 2004 and focuses upon small to medium-sized public equity. It has a total of $1.1bn in assets under management. “We tend to focus on niches that are less covered, where we see inefficiencies,” says Paulo del Priore, chief executive of Victoire Brasil Investimentos. “Investors that we deal with are moving out of benchmark-related strategies to more niche value-oriented strategies.
“[The stock exchange in] Brazil is still a pretty small market; there isn’t much space to add value if you go for a company with a large capitalisation. There are about 40 companies that you can consider ‘large cap’ – with a market capitalisation of above $5bn – that are highly covered by analysts. So there isn’t much efficiency in terms of pricing. You’d just be one of the thousands of analysts covering, say, [energy giant] Petrobras.”
Beyond the stock exchange
Local firms also point out that the poor performance of the Bovespa does not necessarily reflect the state of Brazil’s economy. Listed companies are few, large in size and export-oriented – the most influential stocks tend to be energy producers and commodities exporters, which are therefore exposed to global economics and fluctuations in prices.
“Even though Brazil’s economy has revised downward its growth potential, the Brazilian market never reflected well its economy, not at all [actually],” says Mr del Priore. “Most of the stocks you have in Brazil are much more related to global growth-type themes, such as energy or commodities. There is an enormous amount of the Bovespa that is not Brazil.”
While funds invested in privately owned companies will eventually lead to listings on the stock exchange, making it more diverse and representative, another factor is likely to have a faster impact on Brazil’s capital markets. Local investors have traditionally favoured government bonds because of the country’s high interest rates. Despite some adjustments to rein in inflation, currently at 6.15%, the central bank’s benchmark Selic interest rate has stayed as a single digit for more than one year – since the second quarter of 2012. This is the first time that this has happened since Brazil's dire hyperinflation period of the 1980s and mid-1990s.
A relatively low 9% interest rate is expected to spur the development of capital markets, as it will make higher yielding corporate bonds more appealing and encourage investors to look at the equity investments too. Analysts, however, expect further interest rate rises by the end of the year.
“As interest rates in Brazil become much more normal, most of the financial world will shift away from government bonds and will seek private assets with higher yields,” says Mr Franco. “If you go back to the mid-1990s, Brazil’s [stock] market capitalisation was about $100bn, 10 times lower than it is today. This big appreciation of equity took place because of stabilisation, with Brazil moving to conventional macroeconomic policies.”
New products
With a more stable macroeconomic environment and developing capital markets, new products are also giving investors greater options. Investments in companies that manage real estate portfolios, fundos imobiliários, similar to real estate investment trusts (REITs), are gaining interest and some degree of liquidity too. “These days, REITs are reaching levels of liquidity that you see in small caps [companies listed on the stock exchange with a smaller capitalisation],” says Mr Franco, whose company has invested about 60bn reais in these instruments.
Brasil Plural, another relatively new local firm, is also keen on Brazil’s REITs, which grant tax breaks to both local and international buyers. “We’ve been active structuring fundos imobiliários; there is an active pipeline there,” says Sebastien Chatel, co-head of equities and chief executive of the securities business at Brasil Plural.
Looking at it from the other side, Brazil has not lost its appeal. Indeed it could be said that the opposite is true. Judging by the sustained amount of greenfield foreign direct investment into the country, many long-term investors agree. According to data from fDi Intelligence, after the $56.9bn peak in 2011, multinationals have continued to steadily pour money into Brazil. Foreign investments were worth $26.3bn last year and $13bn up to July this year.
“Right now [macro and emerging market funds] are in a moment in which they’re forced out of Brazil because of losses on their investments here. It is hard to go back to your investors and ask for more,” says Mr Franco. "[But] even if Wall Street-type people are pessimistic, multinationals are quite keen to bring money into Brazil.”
