SocGen Says Buy Brazil Bonds as Worst of Turmoil Is in the Past

  • Impeachment of President Dilma Rousseff could lead to a rally
  • Risk of default on external debt seen as low, given reserves

It is time to buy Brazil’s foreign bonds because its new junk tag is already priced in and the impeachment of President Dilma Rousseff may spark a rally, according to Societe Generale.

The dollar-denominated notes from Latin America’s biggest economy are cheap given that the government has plenty of international reserves to cover its overseas liabilities, according to Regis Chatellier, the director for emerging markets credit strategy at Societe Generale in London. While the country is dogged by a plummeting real and soaring inflation, those issues shouldn’t affect holders of foreign-currency securities, he said.

Brazil’s international notes have lost investors 15 percent this year, compared with an average decline of just 0.1 percent in emerging markets, and its sovereign credit rating was cut to junk by a second major company this week as lawmakers struggle to agree on a path to shore up the budget and revive the economy amid efforts to oust the president. If Rousseff’s opponents are successful in removing here, it should reduce political turmoil and pave the way for a renewed focus on fixing the country’s problems, Chatellier says.

"The bad news has been priced in, but not the potential good news," he said. "If the impeachment process goes through, it would be perceived as market positive."

Chatellier, who previously worked at Morgan Stanley and Royal Bank of Scotland analyzing emerging markets, is part of a team at the French bank which forecast in August that Brazil’s real would reach 4 per U.S. dollar by October. The currency weakened to a record low of 4.1783 reais per dollar on Sept. 23.

The move by Fitch Ratings this week came just days after Moody’s Investors Service warned that it may also cut the country to junk, after a reduction by Standard & Poor’s in September. In its statement, Fitch cited a deeper-than-expected recession, adverse fiscal developments and political uncertainty.

Brazil had $368.7 billion in foreign reserves as of Dec. 16, according to the central bank. The country has $138.1 billion of local real-denominated debt coming due next year and just $15.9 billion of foreign currency bonds maturing in the next five years, according to Treasury data.

Latin America’s biggest economy is a net external creditor, and should not have any issue in paying its hard currency debt “at all,” said Phillip Blackwood, a managing partner at EM Quest Capital LLP, which advises Sydbank A/S on $3.5 billion of emerging-market debt.

"So it’s very cheap and trading below its rating," he said. The same is valid by bonds backed by loans, taken by local states and guaranteed by the Treasury, such as Minas Gerais, he added.

"Foreign currency ratings are meant to gauge the capacity of a country to repay its external liabilities, but in the case of Brazil the risk of default on the sovereign external debt is low," Chatellier said. "With inflation way above 10 percent and depreciation pressure on the real, we would wait before getting exposure to the local debt. However, the external debt is cheap. We think it’s very cheap to fundamentals."

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