June 2 (Bloomberg) -- Brazilian stocks may decline as much as 10 percent by the end of August as inflation accelerates and interest rates rise, according to Citigroup Inc.

Citigroup strategist Geoffrey Dennis forecast the Bovespa stock index may drop to 65,000 by ``mid-summer'' from the May 30 close of 72,592.50. The index fell 1 percent to 71,897.25. The New York-based strategist kept his end-year forecast for the Bovespa at 74,000.

``Our mid-summer sell-off is 65,000 on the Bovespa, based on a big pullback in domestics, as interest rates and inflation rise,'' the strategist wrote in a note to clients. So-called domestic stocks are shares in the consumer, industrial, utility, financial and telecom industries.

A 14-percent increase in the Bovespa index this year through May prompted analysts to cut their ``buy'' ratings on Brazil's stock market to the fewest since December as its average valuation rose to 16.8 times earnings, the highest in four years.

While Citigroup economists predict Brazil's central bank may increase the benchmark lending rate to 13.75 percent by the end of the year, Dennis said rates may rise as high as 15 percent.

``Most interest-rate up-cycles in Brazil last longer and move further than the market expects at the start of the tightening campaign,'' Dennis wrote.

Brazilian economists boosted their 2008 inflation forecast to 5.48 percent from a previous estimate of 5.24 percent, according to a weekly central bank survey released today. That's well above the central bank's inflation target of 4.5 percent this year. The bank will likely raise the benchmark rate a half- percentage point to 12.25 percent at its policy meeting scheduled for June 3-4, according to 22 of 29 analysts surveyed by Bloomberg.

To contact the reporter on this story: Fabio Alves in New York at Falves3@bloomberg.net;

Last Updated: June 2, 2008 16:22 EDT