Bond Traders Lose Confidence in Brazil as Rousseff Is Besieged

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Bond traders are growing more skeptical Brazil will emerge stronger from its economic and political crisis as lawmakers undermine President Dilma Rousseff’s government and talks of her impeachment gain traction.

Brazil’s perceived creditworthiness has eroded the most among the world’s largest emerging markets since June, when Rousseff’s approval rating hit a record low and legislators started rebelling against her austerity program. The political crisis entered a new phase on Thursday when prosecutors announced a probe of Luiz Inacio Lula Da Silva, the previous president and Rousseff’s mentor.

Traders and investors are concerned the political upheaval coupled with a shrinking economy will reverse the effects of Rousseff’s belt tightening and put at risk Brazil’s investment rating. Stocks tumbled and credit-default swaps surged this week as a visit to Brazil by officials from Moody’s Investors Service raised the specter of a sovereign downgrade.

“Today the market has a certain fear of politics,” said Paulo Petrassi, a money manager at Leme Investimentos in Florianopolis, Brazil. “There’s a dismantling of a position that was very optimistic.”

After the cost to buy protection against a default in Brazil fell from late March to May on signs Rousseff would win approval for the bulk of her austerity measures, it has started rising again after a series of government defeats in Congress.

‘Polemic Decisions’

Emboldened by news that the government’s approval rating fell to the lowest of any administration since 1989, legislators in June opposed Rousseff and approved proposals to raise salaries for judiciary workers by a total of 26 billion reais ($8.2 billion) and boost federal spending on retirement benefits.

That helped send swaps up 27 basis points, or 0.27 percentage point, from the end of May to 263 basis points on Friday. The real reversed early gains on Thursday following reports that Lula is under investigation for influence peddling, closing down 0.5 percent to 3.1565 per U.S. dollar. It fell another 1.1 percent Friday as of 12:20 p.m. local time.

“The political crisis has contributed to polemic decisions in Congress, which have become a burden for the federal budget,” Marco Aurelio de Sa, head of fixed-income trading at Credit Agricole SA’s Miami brokerage unit, said in an e-mail.

The presidential press office didn’t respond to an e-mail seeking comment on the impact of her political challenges.

Rousseff’s Defeats

Rousseff’s defeats can be seen in other debt markets as well. The yield gap between inflation-linked bonds maturing in 2045 and 2016 eroded by one-third in the last month as the price of the longer-term debt plunged.

The deterioration of 2045 bonds reflects bets that inflation will slow as the economy weakens and that Brazil’s credit rating might slip to junk, according to de Sa. The move also shows investors are less optimistic about Brazil’s political environment, Leme’s Petrassi said.

Analysts are dimming their outlook, with Eurasia Group and Nomura Securities both writing in reports this month that odds of Rousseff’s ouster have increased to 30 percent and as much as 25 percent, respectively.

If the court responsible for auditing public accounts rules against Rousseff on allegations she violated the fiscal responsibility law last year, Congress could open impeachment proceedings.

‘Political Crisis’

The congressman instrumental in deciding whether to hold the impeachment vote, lower house President Eduardo Cunha, says Brazil’s political environment is only getting worse. Embroiled in his own scandal, Cunha on Thursday denied accusations made by a state’s witness that he requested a bribe.

“The strain of the political crisis coupled with the economic crisis is eroding the government’s popularity and, as a consequence, it’s losing its ability to govern with every day that passes,” Cunha said Thursday.

On Friday he announced that he was breaking ties with Rousseff’s government, and that he would review impeachment requests. He also told reporters in Brasilia that he wouldn’t hurt governability.

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