Brazil Frets as Panamericano Exposes Deteriorating Credit Hitting Stocks
Brazil Frets as Panamericano Exposes Weak Credit
Paulo Fridman/Bloomberg
Pedestrians pass a Banco Panamericano bank branch in Sao Paulo, Brazil.
Pedestrians pass a Banco Panamericano bank branch in Sao Paulo, Brazil. Photographer: Paulo Fridman/Bloomberg
The first investigation into Brazil’s asset-backed securities industry, rising consumer delinquencies and the biggest rout of a bank stock in more than a decade are opening cracks in the country’s financial system.
Funding costs for smaller banks have climbed since a Nov. 9 bailout of Banco Panamericano SA triggered the probe, pushing average yields on certificates of deposit to 12.9 percent from 11.8 percent. The market for selling loan portfolios has dried up, and funds of asset-backed commercial paper have had 2.3 billion reais ($1.3 billion) in redemptions since the rescue, according to Brazil’s capital markets association.
The stress in Brazil’s credit markets is damping euphoria among investors that helped the Bovespa index gain 81 percent since December 2008. The index is the only benchmark stock index in the Americas to decline this year.
“Panamericano was the wake-up call,” said Denise Debiasi, vice president for Latin America at FTI Consulting Inc., a Baltimore-based firm started in 1982 to advise on compliance, risk and finance. “There’s risks people may be overlooking, like credit quality as the market booms.”
Late payments on credit-card and other consumer loans jumped 23 percent in November from a year earlier, the biggest increase since 2001, according to Experian Plc, a credit-risk consulting firm in Dublin. Brazil, the fourth fastest-growing of the Group of 20 nations, is also attracting a flood of foreign capital and facing its highest rate of inflation in five years.
‘Not Sustainable’
“They’re growing at these levels because of huge domestic credit growth and loans from the government development bank,” said Simon Nocera, co-founder of San Francisco-based hedge fund Lumen Advisors LLC and a former economist for the International Monetary Fund. “But this is in a country where there’s no real credit history. It’s not sustainable.”
Brazil’s central bank tightened capital rules on Dec. 3 to head off what happened in the U.S. two years ago after investors poured money into the subprime-mortgage market. The move further limited funding options for smaller lenders, like Panamericano, which helped fuel a fivefold expansion of consumer credit in Brazil to 743.5 billion reais in October from 137.9 billion reais in December 2002, according to the central bank.
Dilma Rousseff, 63, who becomes Brazil’s president Jan. 1, is trying to convince investors she will cut spending and government-subsidized lending to curb inflation. She succeeds Luiz Inacio Lula da Silva, whose policies promoted a 500 percent surge in the Bovespa index since 2002.
64 Percent Drop
Panamericano, the country’s 21st-largest bank by assets, was bailed out with a 2.5 billion-real loan from its controlling shareholder, Silvio Santos, the 80-year-old host of a Sunday variety show. The rescue prompted investigations into the bank’s accounting practices, loan-portfolio purchases and the asset- backed securities industry.
Shares of Panamericano, based in Sao Paulo, sank 64 percent from this year’s high on Oct. 13, the biggest drop for a Brazilian financial stock during a bull rally in the Bovespa index since at least 2000, according to monthly data compiled by Bloomberg and Westport, Connecticut-based research firm Birinyi Associates Inc.
Panamericano led a decline for banks on the BM&FBovespa Small Cap index, dropping 4 percent to 4.13 reais. Banco Industrial e Comercial SA fell 1.1 percent. The Bovespa benchmark measure slipped 1.1 percent to a 67,263.60.
‘Isolated Events’
The accounting inconsistencies at Panamericano were “isolated events,” the central bank said in an e-mailed response to questions on Dec. 17.
“The problem was found only in that institution,” the central bank said.
Panamericano doesn’t comment on ongoing investigations, according to a spokesman at the bank’s external press agency in Sao Paulo. Officials at Grupo Silvio Santos didn’t return an e- mail or phone calls after business hours.
Lula, a former union leader who won the presidency in 2002 amid concern that he’d default on the nation’s debt, has lauded Brazilian banks for withstanding the global credit crisis, which he described in a May 2009 speech in Istanbul as “the dirty scheme of a system that was totally out of control in the rich countries.” He said Brazil’s system has “much more rules.”
Brazil’s economy, growing at its fastest pace in more than two decades, emerged more quickly from the financial crisis than those of other countries. The currency gained 32 percent against the dollar since December 2008, as foreign investors last year poured 20.6 billion reais into the stock market.
BNDES Financing
Much of Brazil’s recovery was financed by the government development bank, known as BNDES, which more than doubled lending to companies last year to 137.4 billion reais, exceeding the $72.2 billion lent globally by the World Bank in the fiscal year ended in June.
“It was good during the crisis, but now it’s causing all sorts of credit inefficiencies,” said Nocera, a former fund manager for Soros Fund Management LLC. “They lend at such low rates that private banks can’t compete.”
Credit growth has also been bolstered by the emergence of an asset-backed securities industry after regulators permitted the issuance and trading of credit-linked notes in 2001. So- called receivable funds, known as FIDCs and backed by future cash flow from credit-card, auto and payroll loans, grew to 59.6 billion reais from 1 billion reais in 2003, making Brazil Latin America’s largest domestic issuer of asset-backed securities, according to regulatory data compiled by Economatica.
Pension Funds
FIDCs are typically sold to Brazilian pension funds and asset-management firms. They offer yields of 12.2 percent a year for AAA rated funds to as much as 18.8 percent for lower-rated securities, said Jean-Pierre Cote Gil, a director of Latin American structured finance for Standard & Poor’s in Sao Paulo. Ten-year U.S. Treasury notes yield 3.32 percent, according to BGCantor Market Data, and Brazil’s real-denominated government bonds due in 2021 yield 12.36 percent, Bloomberg data show.
About one-third of Brazil’s FIDCs are backed by loans in which credit payments are deducted from payrolls of public employees or income from pensioners, said S&P’s Cote Gil. The rest are mostly repackaged trade receivables, vehicle loans or credit-card payments, he said.
Payroll loans in Brazil are similar to payday loans in the U.S., except the Brazilian government allows banks to deduct the payments directly from payroll and pension payments before consumers ever see their checks, making them more secure.
A surge in credit-card issuance -- tripling since 2003 to 153.4 million in circulation, according to the industry’s national association -- has helped bring the debt load of Brazilian consumers to 18 percent of total disposable income, compared with 13 percent in the U.S., according to data compiled by Morgan Stanley.
Late Payments
Deteriorating consumer-credit quality is becoming a concern, even though FIDCs are structured to mitigate the risk of default for investors, said Cote Gil.
“As the economy brings to the credit market a type of consumer that’s not used to credit, it adds to the level of risk,” he said in a telephone interview. “As much as you can have credit policies and structured models to eliminate losses, you are still adding risk either way.”
Late payments rose for a seventh straight month in November, according to Experian, based on data from credit-card payments, bills for services and bank loans. Total consumer loan defaults -- credit payments overdue for 90 days or more -- fell to 6 percent in October, from 8.1 percent a year earlier, according to the central bank.
Credit Cards
Credit cards and vehicle financing are lucrative for banks looking to buy loan portfolios, said Andrew Frank Storfer, president of Anefac, a Sao Paulo-based association of finance and accounting executives. The average credit-card holder is charged 238 percent of the principal owed each year, according to Anefac. Payroll loans, perceived as the least risky, yield as much 30 percent a year, Storfer said.
Smaller banks, which offer credit to companies and consumers that typically don’t get loans from Brazil’s largest banks, including BNDES, are “enormously” important for the Brazilian financial system, said Sergio Tabone, a partner and head of institutional relations at Rio de Janeiro-based Banco Maxima SA, which offers loans to small businesses and created one of the first FIDC funds in August 2002.
“The big banks don’t have access to the consumer or smaller, private companies,” said Tabone. “That’s why smaller banks are important for credit growth.”
Smaller Banks
Brazil’s smaller banks get most of their financing from the sale of loan portfolios to larger banks, according to Peter Shaw, managing director of Latin America for Fitch Ratings in New York, which said it already had lower grades on the country’s small and mid-size banks than Moody’s Investors Service because they’re more vulnerable to liquidity runs.
“There’s a much broader set of banks that have a business model that’s pretty dependent on wholesale funding,” Shaw said. “That’s not just Brazil, but seems to be the Achilles’ heel of the world,” Shaw said.
The loans are generally sold with recourse, meaning the originator has to make good on those that go bad. An accounting rule allows banks to book the proceeds from the loan sale as well as all projected future interest income as revenue when the loan is sold, even though that money hasn’t been collected from borrowers and the seller may not see any of that income.
“You are accounting revenue that wasn’t paid for yet and didn’t take into account the delinquencies, so you are advancing something that wasn’t paid, that isn’t cash yet,” said Edgard Dias, the lead bank analyst for Fitch Ratings Brasil Ltda. in Sao Paulo. “And that goes into your results, which goes into your net worth, which increases your leverage capacity so you can lend more and sell more.”
New Rules
Not all banks take advantage of the rule, Dias said. Only small and mid-market banks that rely on portfolio sales for financing use it, and not all to the same degree, he said.
The central bank postponed until January 2012 a rule that would ban the practice of booking future revenue streams, which Dias said “generates considerable distortions” in revenue, income and capital levels for some banks. The changes, which were supposed to take effect in 2009, have been postponed three times to give the banking system a longer period to recover.
Fraud Probe
In the fraud probe of Panamericano, Brazil’s biggest lender for used cars, investigators found 2.1 billion reais of losses stemming from the improper accounting of sales of credit portfolios, Central Bank President Henrique Meirelles said in a Nov. 17 interview. The central bank also discovered that the group’s credit-card company owed the lender 400 million reais.
Regulators identified the problem seven weeks earlier when they noticed Panamericano was recording as assets loans it had sold to other institutions, and there was evidence that loan portfolios were sold more than once, Alvir Hoffmann, director of supervision at the central bank, told reporters Nov. 10.
Brazilian federal police seized documents and computers from the homes of former Panamericano executives on Dec. 16. Deloitte & Touche LLP, the bank’s auditors, may also be questioned because of accounting inconsistencies that go back four years, a person close to the probe said Nov. 13, asking not to be identified because the investigation, the biggest in the industry since the 2004 bankruptcy of Banco Santos SA, is confidential. Deloitte declined to comment, according to an e- mailed statement.
Since the investigation was announced, demand for loan portfolios has halted, according to Banco Maxima’s Tabone.
“The big banks stopped buying these portfolios after Panamericano,” Tabone said in an interview. “The reason: Nobody knows exactly what happened. It looks like a fraud, but what institution failed to see it?”
‘Internal Problem’
Gustavo Andre Jorge Rodrigues, who structures FIDCs based on cash flow from legal claims and mortgages for Vision Brazil Investments in Sao Paulo, said the issue is one of accounting, not the structure of the securities.
“In the U.S., they had several levels of derivatives for one mortgage asset, and in Brazil we don’t use derivatives,” Rodrigues said. “Every time a problem in a financial institution comes up they’d like to investigate more into these kinds of assets. But in this case, I think it was an internal problem where the auditing wasn’t done correctly.”
Earnings growth and consumer lending will slow as smaller banks struggle to raise capital and meet the central bank’s tighter requirements, Ceres Lisboa, an analyst at Moody’s America Latina Ltda., said on Dec. 9 after cutting the outlook to negative for ratings of four banks that specialize in payroll and vehicle loans.
‘Used Cars’
“The issue is liquidity capital and the sustainability of these franchises,” Lisboa said in a telephone interview. “Credit sales have slowed because of Panamericano, and that was an important alternative for funding.”
Vehicle loans make up about half of Panamericano’s lending, Lisboa said.
“You’re talking about selling used cars to low-income individuals,” she said. “That’s an asset class that carries risk.”
Increasing risk perception for smaller banks is highlighted by rising yields for certificates of deposit, one of the most important ways of funding for the industry, Tabone said.
Bond prices for lenders with assets less than 2 billion reais haven’t recovered since they plunged on Nov. 10. The yield on Banco Industrial e Comercial SA’s 8.5 percent debt due in 2020 has climbed 81 basis points, or 0.81 percentage point, since Nov. 9, according to data compiled by Bloomberg. Banco Daycoval SA’s 6.5 percent bond due in 2015 rose 85 basis points in that period.
Credit Bubble
Brazil’s central bank is acting to prevent a credit bubble by raising reserve and capital requirements to slow consumer lending. Reserve requirements on time deposits will rise to 20 percent from 15 percent, and an additional requirement for non- interest-bearing accounts will climb to 12 percent from 8 percent. Banks will also have to use more capital to back consumer loans whose payment terms exceed 24 months.
Finance Minister Guido Mantega, who will keep his post when Rousseff takes office next month, said in a Nov. 30 interview that Brazil will cut funding for its development bank by 50 percent next year as part of a plan to slow public spending.
The government is also looking to rein in Brazil’s unregulated credit-card industry, Meirelles said in the interview last month. The central bank president said there should be more oversight and that a task force will study the need for government supervision.
“Some supervision could be proper,” Meirelles said. “The case of Panamericano showed how this is important.”
‘Chasing Yield’
Brazil’s securities regulator, which oversees FIDC funds, is working with the central bank to ensure that enough information is provided to investors, according to Francisco Jose Bastos Santos, head of institutional investor relations at the Rio de Janeiro-based agency, known as CVM.
“Securitizations like FIDCs and real-estate securities are at the moment the big challenge in perfecting our regulation,” Santos said in a Dec. 2 interview.
Adding to the credit anxiety are foreign investors lured by an inflation-adjusted interest rate of 5.12 percent, second only to Croatia among 46 countries tracked by Bloomberg. Investors “chasing yield” are taking the liquidity the Federal Reserve is pumping into the U.S. economy and investing it in emerging markets such as Brazil and China, where the payoffs are bigger, said Russ Certo, a managing director and co-head of rates trading at New York-based Gleacher & Co.
The Fed is “sowing the seeds of the next volatile moves in markets because these policies are destabilizing,” Certo said. “These economies are afraid of what happens when all this hot money leaves, because when it leaves, it’s going to be tumbleweeds.”
‘Boom-Bust Cycles’
The flood of capital to emerging markets “could be overwhelming,” Mantega said in an Oct. 9 statement to the IMF, as some countries “struggle with rapid growth in credit.”
That view echoed an October IMF report that said large capital inflows to countries such as Brazil, combined with monetary policies in developed nations, increases the chances that the financial system will become overleveraged and “raises the risk of asset-price, boom-bust cycles.”
Jim O’Neill, chairman of Goldman Sachs Asset Management, who coined the term BRIC -- for Brazil, Russia, India and China -- said in a radio interview with Bloomberg News on Dec. 14 that Brazil’s currency is “overvalued.”
“It’s time to be a little bit careful about the B in BRIC,” he said. “There’s better value elsewhere, I think.”
‘Increasingly Difficult’
Brazil’s new capital and reserve requirements, while manageable, will reduce profit margins by as much as 2 percent and make it “increasingly difficult for banks to grow at historical levels,” analysts at Morgan Stanley led by Jorge Kuri wrote in a Dec. 3 research report.
They said the new reserve rules will most affect Banco Santander Brasil SA, the Brazilian unit of Spain’s largest bank, followed by Banco do Brasil SA, Latin America’s biggest bank by assets; Banco Bradesco SA in Osasco, Brazil, the country’s second-biggest bank by market value; and Sao Paulo-based Itau Unibanco Holding SA, the largest lender.
Brazilian banks had a median profit margin of 15.31 percent in 2009, making them almost three times as profitable as U.S. lenders, which had an earnings margin of 5.7 percent over the same period, according to Bloomberg data. Financial stocks almost tripled since their October 2008 low, compared with a 14 percent gain for banks globally, according to MSCI indexes.
‘Swimming Naked’
Now the world’s biggest banks are fighting for a share of these profits. Citigroup Inc., the third-largest U.S. bank by assets, already controls 8 percent of the Brazilian credit-card market, Manuel Medina-Mora, chief executive officer of Citigroup’s Global Consumer Bank, said at an investor conference last month. JPMorgan Chase & Co., the second-biggest U.S. bank, acquired a majority stake in Gavea Investimentos Ltda., a Rio de Janeiro firm that oversees $6 billion in private-equity, stock and hedge funds and is managed by former Brazilian central banker Arminio Fraga.
“When you have fast loan growth and credit expansion, everything is fine,” said Eric Conrads, who helps manage $12 billion in emerging-market funds at ING Investment Management in New York. “But if sentiment turns, or you get tighter reserve requirements, what matters is the quality of the assets. When the water in the pool starts going down, you see who’s been swimming naked.”
To contact the reporters on this story: Alexander Ragir in Rio de Janeiro at aragir@bloomberg.net; Dawn Kopecki in New York at dkopecki@bloomberg.com.
To contact the editors responsible for this story: David Papadopoulos at papadopoulos@bloomberg.net; David Scheer at dscheer@bloomberg.net.
Rate this Page