Mexico Seen Gaining at Brazil's Expense After S&P Downgrade

  • South American nation cut to BB+, three levels below Mexico
  • BlackRock says downgrade underscores policy differences

Brazil’s return to a junk credit rating may be a boon for its regional rival Mexico as Latin America’s two-biggest economies vie for investors.

Bondholders are likely to shift some funds from Brazil to Mexico over coming months, according to Gabriel Casillas, the head of research at Banorte, and Joe Kogan, an emerging-market strategist at Scotia Capital. Mexico is rated three levels higher by S&P at BBB+, the third-lowest investment grade.

Standard & Poor’s decision to cut Brazil to the highest speculative rating Wednesday underscores the divergence between the outlook for the South American nation and Mexico. While Latin America’s biggest economy’s lurches toward the longest recession since the 1930s, Mexico has won praise for amending the constitution to break the state’s energy monopoly. The fastest inflation in 12 years has forced Brazil to increase its target lending rate to 14.25 percent, more than four times Mexico’s record low of 3 percent.

Mexico’s Anchor

“The difference between Mexico and Brazil continues to widen,” Gerardo
Rodriguez, a BlackRock Inc. portfolio manager and former Mexico deputy finance minister, said by e-mail. “This will continue to allow Mexico to
differentiate. It has a much stronger macro policy framework that will continue to operate as an anchor.”

While Mexico has endured its share of setbacks, including disappointing economic growth and a tumble in crude prices, Brazil is much less credit-worthy, according to investors.

The cost of insuring Brazilian bonds with credit-default swaps for five years climbed Thursday to 385 basis points, the highest level since 2009. Mexican swaps increased from a September low to 148 basis points. Brazil’s real has tumbled 31 percent this year, the most among major currencies, while Mexico’s peso has lost 12 percent.

“There could be a substitution effect,” Kogan said in an interview. “Both countries have large financial markets that could handle large foreign inflows, so I imagine some investors started to shift."

Though investors, in the beginning, could assume that all emerging markets will suffer from the downgrade of Brazil, “a few days later, during the adjustment, markets start thinking this is the opposite situation: Mexico looks very good," said Casillas.

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