Stocks Cheapest to Bonds Amid Record-Low Rates: Corporate Brazil

Stocks Cheapest to Bonds as Earnings Surprise
Men stand outside of the BM&FBovespa SA Stock Exchange in Sao Paulo. Photographer: Dado Galdieri/Bloomberg

Brazilian stocks reached their cheapest levels ever relative to government bonds, signaling a rally is coming as the government takes stimulus measures and cuts interest rates to bolster economic growth.

Reported earnings for companies listed on the Bovespa equaled 8.1 percent of current share prices yesterday, compared with an 8.2 percent yield on two-year local government bonds, data compiled by Bloomberg show. The spread on earnings yields over bond yields widened from a negative 300 basis points, or 3 percentage points, in mid-2011 to an all-time high of 80 basis points on June 28.

Earnings yields surged after Brazil’s benchmark index plunged 18 percent from its 2012 high, reached on March 13, amid concern that growth will falter even after the central bank cut interest rates to a record 8 percent. The earnings yield for Eletropaulo Metropolitana SA, the Brazilian unit of AES Corp., was at 43 percent, the highest among the 67 stocks on the Bovespa.

“It makes absolutely no sense that the market is doing so poorly with rates at a record low,” Wagner Salaverry, who helps oversee 5.5 billion reais ($2.7 billion) at Porto Alegre, Brazil-based Geracao Futuro Corretora de Valores SA, said in a telephone interview. “From what we know today about how businesses are going, stocks look cheap.”

Of the 19 companies on the Bovespa index that reported second-quarter earnings and have estimates tracked by Bloomberg, nine posted profit that topped analysts’ estimates.

Cheapest Stocks

The Bovespa has dropped 1.4 percent this year, the worst performer after Argentina in Latin America. Mexico’s benchmark IPC index has advanced 10.4 percent. The yield on Brazil’s two-year fixed-rate bond has fallen from about 13 percent a year ago as policy makers lowered the benchmark Selic rate to shore up growth.

Eletropaulo shares have dropped 47 percent this year, the third-worst performance in the index. The yield for homebuilder Rossi Residencial SA was at 25 percent after shares plunged 41 percent. The two companies are the cheapest stocks on the Bovespa, trading at price-to-earnings ratios of 2.3 and 4.1, respectively.

“Any concern that you may have about the outlook for corporate earnings, I don’t think it justifies the dive that the market took,” Alexandre Ghirghi, a portfolio manager at Metodo Investimentos in Sao Paulo, said in a phone interview. “Stocks are cheap. The problem is that the Brazilian market depends on foreign investors to go up, and with all that’s going on in the world, flows have been pretty negative.”

Foreign Flows

International investors, who accounted for 40 percent of the trading volume in Sao Paulo this year, pulled 2.6 billion reais from the exchange in the second quarter, according to data compiled by Bloomberg. Flows were positive at 4.8 billion reais from January through March, when the Bovespa index jumped 14 percent, its best start to a year since 1999.

Concern about a deepening slowdown in the global economy may stop Brazil’s equity market from rebounding anytime soon, said Marc Sauerman, a portfolio manager at JMalucelli Investimentos in Curitiba, Brazil.

“If higher earnings yields relative to bond yields were a sign to buy, then you’d be buying a lot of things in the United States and Japan, where interest rates are close to zero,” Sauerman, who helps oversee 650 million reais at JMalucelli, said in a phone interview. “The fact that, even at what appears to be very cheap levels, equities are still performing poorly goes to show how investors are taking a very cautious stance right now.”

‘Frustrating’ Economy

The worldwide retreat in stocks since March has wiped out about $3.4 trillion of market capitalization amid concern that Europe’s debt crisis will curb global economic growth.

A deepening slowdown in the world economy has limited lower borrowing costs from fueling faster growth in Brazil, said Luciano Rostagno, the chief strategist at Banco WestLB do Brasil SA.

“It’s surely a bit frustrating to see the economy and the equity market performing so badly even with such low rates,” Rostagno said by telephone from Sao Paulo. “But we may see a rebound in the coming months if the external outlook improves, and Europe takes some steps to solve its crisis. Then we could see the rate cuts driving a more solid recovery.”

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