Nov. 19 (Bloomberg) -- Emerging markets analysts are cutting their “buy” ratings on Brazil to a record low as the world’s biggest gains push equities to their priciest levels in six years and the government adds taxes to slow the rally.

“Buy” ratings on Brazilian stocks fell to 44.6 percent this month, the lowest since Bloomberg began tracking them in 1997, from 52.7 percent in January and 55.1 percent a year ago. The Bovespa index, up 136 percent this year in dollar terms, traded at 25.3 times reported profit at the end of October, the highest since December 2003 and the most expensive relative to Chinese and Indian benchmark gauges in the same period.

While Mark Mobius, the chairman of Templeton Asset Management, said stocks in China and Brazil are among the cheapest worldwide compared with assets, Prudential Financial Inc. and ING Investment Management Inc. say valuations are too high to ignore. Auerbach Grayson & Co. in New York said last week that Brazil will lag behind developing-nation shares through the first quarter.

“They’ve had a very powerful rally,” said Keith Wirtz, who manages $18.6 billion as chief investment officer at Fifth Third Asset Management Inc. in Cincinnati and began paring his Brazil holdings last month. “The risk is that since we’ve already had such an expansion of valuations, if earnings meet expectations you may not get such a stock benefit.”

Analysts have been cutting “buy” ratings on Brazilian stocks for five straight months, according to Bloomberg data. They have “hold” recommendations on 49.7 percent of shares, and a “sell” rating on 5.6 percent.

B2W, Vale

B2W Cia. Global do Varejo SA, Brazil’s largest Internet retailer, was lowered by Goldman Sachs Group Inc. and JPMorgan Chase & Co. in the past two weeks following a third-quarter profit report that trailed analyst estimates. The Rio de Janeiro-based company trades for 96.3 times reported profit, more than triple its level at the beginning of the year.

Vale SA, the world’s biggest iron ore producer, was cut to “hold” from “buy” this month at Raymond James & Associates, which said earnings are “fully baked” into the stock price. The company, based in Rio, fetches 23 times profit, the highest in at least four years.

The Bovespa’s ascent in dollar terms this year, the most of 89 indexes tracked by Bloomberg, was helped by the Brazilian real’s 34 percent surge against the greenback. In local currency terms, the index gained 77 percent, the 10th-biggest rise among global measures and the second-best performance among gauges in the world’s 15 largest markets, after China.

New Tax

The index closed at a 17-month high on Nov. 17, recouping losses of as much as 11 percent since the government imposed a tax on foreign purchases of securities in October. The move was meant to prevent an asset “bubble” and fend off speculators, Finance Minister Guido Mantega said Nov. 4.

Brazil will begin a 1.5 percent tax on the issuance of American depositary receipts to “balance” the measure, Economic Policy Secretary Nelson Barbosa said yesterday.

The taxes are “a bit bizarre” because “people have confidence in what’s going on in the country, so I don’t know why they are trying to shoot down that confidence,” said Geoffrey Pazzanese, a money manager at Pittsburgh-based Federated Investors Inc.

The Bovespa fell 0.3 percent today to 66,327.25.

Rising Demand

Brazil’s stocks and currency lured investors this year on prospects that rising consumer demand and rebounding prices for commodities, which comprise about two-thirds of exports, will bolster an economic recovery. Moody’s Investors Service gave Brazil an investment-grade rating for the first time in September, citing record foreign-currency reserves and the country’s “resilience” during the financial crisis.

International investors have added 20.4 billion reais ($11.9 billion) to their Brazilian stock holdings this year, according to Sao Paulo-based exchange owner BM&FBovespa SA. That’s the biggest annual inflow since at least 1994.

“After a rally of this magnitude, one should be a bit cautious and take some profits,” said John Praveen, the chief investment strategist at Prudential International Investments LLC, a unit of Prudential Financial, which manages about $580 billion. “The strong appreciation of the real caused the massive outperformance. We probably won’t get that next year.”

Prudential, based in Newark, New Jersey, has been cutting its “overweight” position in Brazilian stocks, Praveen said.

Mobius Prediction

Mobius said yesterday that stocks in Brazil, Russia, India and China, the so-called BRIC nations, probably will rise 30 percent to 40 percent in three to four years as demand for their commodities and increased consumer spending in local markets help gross domestic product grow.

Brazil is the second-largest producer of iron ore and soybeans and the biggest in coffee, orange juice and sugar. Commodity prices, as measured by the Reuters-Jefferies CRB Index, are up 19 percent this year.

“The biggest growth areas now are consumer and commodities,” Mobius, 73, who oversees about $25 billion of emerging-market assets, said in an interview in Istanbul.

Audrey Kaplan, who helps manage $392 billion as co-head of international equities at Federated in New York, said she’s been reducing holdings in Brazil while buying equities in Chile and Mexico, whose benchmark measures rose half as much this year in local currency terms. Still, Brazil remains the biggest “overweight” in her global fund.

Stocks, Currency Rally

President Luiz Inacio Lula da Silva, 64, whose term ends next year, has presided over a more than fivefold surge in the Bovespa stock index and 105 percent rise in the real against the dollar, the most among emerging-market currencies. Annual inflation tumbled from a peak of 17.2 percent in May 2003 to 4.17 percent last month. The economy has grown an average of 4.1 percent annually since he took office in 2003, helped by a 17 percent rise in the Reuters-Jefferies index of 19 raw materials, and a drop in interest rates to record lows.

Brazil’s economy grew 1.9 percent in the second quarter from the previous three months. The median estimate of 14 economists surveyed by Bloomberg is for the economy to expand 3.8 percent next year.

Stock prices relative to reported earnings tend to rise at the beginning of an economic rebound, and the ratio will drop as earnings catch up next year, said Greg Lesko, who helps manage $800 million at Deltec Asset Management in New York. Profits for Brazilian companies will likely increase 24.9 percent in 2010 and 17.8 percent in 2011, according to Credit Suisse Group AG.

‘Multi-Year Bull Market’

“Next year will have very good earnings and economic growth,” said Lesko. “You’re more at risk of missing the upside if you wait. We’re beginning a multi-year bull market in Brazil.”

Brazilian shares still may lag behind emerging markets because they are more expensive, said John Ditierri, who helps oversee about $11 billion in equities at Arlington, Virginia- based Emerging Markets Management.

The Bovespa’s valuation premium to the Bombay Stock Exchange Sensitive Index in India was 31 percent as of Oct. 31, Bloomberg data show. The price-earnings ratio was 20 percent less than China’s Shanghai Composite Index, compared with a more than 50 percent discount at the beginning of the year.

Brazilian equities trade at a 50 percent premium to their five-year average, compared with 12 percent in China, 11 percent in India and a 2.2 percent discount in Russia, according to Credit Suisse’s price-earnings estimates.

‘Less Upside’

“Relative to other emerging markets, Brazil probably has less upside and is more expensive,” Ditierri said. “If Brazil can maintain its current trajectory, both economic and political, and if it can maintain its current trends, then the market doesn’t look extremely overvalued.”

Traders are increasing bets against Brazilian equities. The value of the country’s stocks on loan, an indication of short- selling, climbed for a sixth straight month in October to 28.8 billion reais, the highest level since July 2008, data compiled by the exchange show. That was just before the Bovespa tumbled 37 percent in three months.

Short sellers borrow stock and sell it on hopes of capturing a profit by replacing the shares after prices fall.

The bearishness “means that the markets are seeing things more at fair value or expensive,” said Eric Conrads, a Mexico City-based hedge fund manager at ING, which manages $212 billion in assets. “In large cap it’s a bit more complicated finding cheap and attractive value in Brazil.”

Conrads has been selling the iShares MSCI Brazil Index fund, the U.S. listed exchange-traded fund that tracks the Brazilian market, on expectations the real will drop and reduce demand from international buyers.

“The story of Brazil is one of valuations and the question of how much you’re paying for those earnings,” said Nick Field, who helps manage $11 billion in emerging-market stocks at Schroders Plc and has been “neutral” on Brazil stocks throughout the year. “Valuations are no longer cheap.”

To contact the reporters on this story: Alexander Ragir in Rio de Janeiro at aragir@bloomberg.net

Last Updated: November 19, 2009 15:27 EST