Local Investors Take a Ride on Brazil's Rates Rollercoaster

02/03/2016 - 10h17

Equities, as shown through the iShares MSCI Brazil exchange traded fund, have been more volatile over the past year than emerging market equities in the broad MSCI EM index and US equities in the S&P 500.

If you thought China's A shares had put investors through the biggest rollercoaster in the past few months, think again.

Brazil's fixed income markets have been on a similar ride. Overnight interbank rates are nearly 16 per cent a year, up from 13 per cent in July.

The January 2021 rates contract achieved a rare feat on September 24 by rising 80 basis points from the opening price in the morning, then doing the same by falling 80bp from the opening in the afternoon, says Alberto Ramos, chief Latin American economist at Goldman Sachs.

"Risk is not a problem," he says. "Markets are good at pricing and slicing risk. But uncertainty is totally corrosive and that's what we have, not just economic but political as well."

The swings go in both directions. Rates, equities and the currency have all rallied in the past few days.

Analysts say the US Federal Reserve and a similarly dovish Brazilian central bank have spurred the rally, along with some less bad data on the economy.

But the crisis is still severe. Gross domestic product contracted an estimated 3.7 per cent last year; this year will be hardly less bad. Unemployment is hitting record highs. Business and consumer confidence are at historical lows.

Foreign investors have made it clear what they think of all this. After inflows of $27bn to Brazilian stocks and bonds in the first five months of last year, the central bank recorded non-resident outflows of $9bn in the rest of the year - though with a heady inrush of $6bn in November.

As foreigners have moved out, Brazilians have mostly moved in. Flows driven by resident investors are much smaller, though their behaviour suggests a pattern, says Robin Koepke, economist at the Institute of International Finance.

"Looking at Brazilian residents' portfolio investment, it appears that they are behaving much like most investors are," he says. "They are selling foreign assets during volatile risk-off periods, and buying foreign assets when global investor confidence improves."

IIF data on resident portfolio flows for nine emerging markets that publish timely data support his thesis that in times of high volatility, EM investors, like many others, head for home.

But this is not the full story. One reason Brazil's crisis has not sparked the panicky capital flight seen recently in China is that many wealthy Brazilians long ago squirrelled their wealth away overseas. Last month, a law was passed granting a partial amnesty in the hope that they will bring home part of an estimated $400bn.

Many are responding to a more powerful incentive to bring cash home, says André Perfeito, chief economist of Gradual Investimentos, a São Paulo broker.

"Brazilians are putting money into Brazil because the interest rate is extremely attractive right now," he says. "You can double your capital in four-and-a-half years."

While foreigners may flee Brazil and other emerging markets when things look bad in China, Brazilians, who are more accustomed to the ups and downs of the market, see the opportunity to make a lot of cash.

Far from being amateurs, as they might say, they are the professionals.

Copyright The Financial Times Limited 2016