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Brazil Bull Market Luring Bears as Short-Sale Gauge Doubles ’08 Peak Level

Stock investors are showing little faith in Brazil’s bull market.

Short-selling has jumped to twice the levels before the 2008 market crash on concern Brazil’s move to cut borrowing costs will add to the fastest inflation since 2005, while slowing global growth may hurt demand for commodities. An accord to stem Europe’s debt crisis helped the Bovespa index emerge from a yearlong bear market yesterday. Currency declines had made stocks cheaper in dollar terms, luring foreign investors amid the lowest valuations in two years.

Brazil’s benchmark equity gauge is still down 14 percent this year through yesterday after economists cut their domestic economic expansion forecasts amid the global slowdown. That compares to a 2.1 percent gain for the Standard & Poor’s 500 Index in that period and a 1 percent advance for South Africa’s FTSE/JSE Africa All Share Index.

The bull-market rally “does not indicate a sustained upward move by Brazil,” said Komal Sri-Kumar, chief global strategist in Los Angeles at TCW Group Inc., which oversees about $120 billion. “There is a lot of optimism -- in my opinion not completely justified -- on the solution to Europe’s debt crisis. I wouldn’t get overly excited.”

Bull Market

The Bovespa rose 3.7 percent yesterday, extending its gain to 22 percent from an Aug. 8 low, after European leaders agreed to expand a bailout fund to stem the region’s debt crisis. A bull market is typically defined as an advance of at least 20 percent from the preceding bear-market low. The gauge had lost 33 percent from a November 2010 peak through early August, dragging its price to 7.9 times estimated earnings, the lowest since March 2009, according to data compiled by Bloomberg.

The index rose 0.4 percent to 59,513.13 at the close of trading today in Sao Paulo.

Commodities rose 5.9 percent from Aug. 8 through yesterday as European policy makers stepped up their efforts to contain the region’s debt crisis, according to the Standard & Poor’s GSCI index of 24 raw materials, boosting revenue for Brazil’s producers.

Russian stocks also entered a bull market yesterday, bolstered by the commodities rally. The 30-stock Micex Index added 1.7 percent, extending its gain from an Oct. 5 low to 21 percent.

Options Trading

Brazil has missed out on a drop in bearish options trading in emerging markets. The ratio of outstanding puts to sell the iShares MSCI Emerging Markets Index exchange-traded fund fell to a 22-month low on Oct. 25, sinking 24 percent to 1.22-to-1 since Aug. 8. The measure for the iShares MSCI Brazil Index ETF rose 23 percent to 1.42-to-1 during that time.

The volume of equity on loan in Brazil, an indication of short-selling, jumped to $35.2 billion last month, or 2.9 percent of the country’s total market capitalization, according to data from the Sao Paulo exchange and Bloomberg. The ratio reached a record 3 percent in August. That compares to the 2008 peak of 1.5 percent just three months before Lehman Brothers Holdings Inc.’s September bankruptcy sent stocks tumbling.

In a short sale, an investor borrows a security and sells it, expecting to profit from a decline by repurchasing it later at a lower price.

Traders in New York have borrowed 25.7 million shares of the iShares MSCI Brazil ETF as of Oct. 14, or 15 percent of the total outstanding, Bloomberg data show. That’s the highest since October 2007.

Investors may have gotten too bearish, and the jump in short-selling could end up intensifying gains as investors close out their bets, said Eric Conrads, who manages $1.2 billion in Latin American stocks at ING Groep NV in New York.

‘Too Much Pessimism’

“The big issue you had in the market was that 2008 was way too fresh in people’s minds,” said Conrads, who’s been adding to holdings in Brazil since August. “There’s too much pessimism. On the macro front things are not collapsing, and on the valuation front things are more attractive.”

Analysts cut their forecasts for 2012 inflation for the first time in eight weeks, a central bank survey showed on Oct. 24, after the national statistics agency reported that annual inflation had retreated from a six-year high in mid-October, reaching 7.12 percent.

Brazil’s central bank has lowered the benchmark rate twice since August, cutting it to 11.5 percent, to shore up growth amid concern the European crisis could derail the global recovery. The reductions followed five increases to the benchmark Selic rate earlier this year as near record-low unemployment fueled inflation.

‘Rolling the Dice’

“The market is having a tough time with inflationary expectations and the way interest-rate policy has been managed,” said Roberto Lampl, who oversees $19 billion as head of emerging-market equities at Baring Asset Management in London. “We think they’re rolling the dice.”

The Bovespa now trades at a ratio of 10.6 times estimated profit, in line with MSCI Inc.’s gauge of 21 developing nations’ stocks. Russia’s Micex trades at 5.6 times forecast earnings, compared to 15.2 for India’s Sensex and 11.5 for the Shanghai Composite Index.

Economists cut their estimates for Brazil’s 2011 gross domestic product expansion to 3.3 percent from 4.5 percent at the beginning of the year, the central bank’s survey shows.

“Valuations were irresistible to a lot of people,” said Urban Larson, who helps manage about $2.2 billion in emerging- market assets at F&C Management Ltd. in London. “There’s still a lot of uncertainty in the world. We need less uncertainty for the market to really get going.”

To contact the reporter on this story: Alexander Cuadros in Sao Paulo at acuadros@bloomberg.net

To contact the editor responsible for this story: David Papadopoulos at papadopoulos@bloomberg.net

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