Brazil Real Strengthens as Volatility Comes Back to Top Currency

  • Traders weigh budget progress against commodites drop, Fed
  • Real hit by overall risk aversion in emerging markets earlier

Brazil’s real gained after the passage of a budget bill that was seen as a partial victory for the government.

The currency advanced 0.3 percent to 3.2249 per dollar on Wednesday after dropping as much as 0.4 percent. 

Implied volatility in the real has risen this month amid growing concern that Acting President Michel Temer is struggling to pass the fiscal and economic reforms he promised. While Congress on Tuesday night approved the basic text of a budget guideline bill that restricts real increases in expenses, a vote on amendments was suspended for lack of a quorum.

"In Brazil, the budget bill is positive because it guarantees that expenses will be limited starting next year," said Mauricio Oreng, a senior strategist at Rabobank in Sao Paulo.
"The real is also being influenced by the increased perception that the Fed may raise rates in the short term and by declining commodities."

The currency earlier weakened as the specter of higher U.S. interest rates undermined raw materials and emerging-market assets. The Bloomberg Commodity Index declined 1.2 percent and crude oil dropped 2.7 percent. Three-month implied volatility in the real was the second-highest among major currencies, rising to 16.5 percent Wednesday from 15.5 percent at the end of last month.

Investors who borrow in dollars and buy reais as they take advantage of the country’s higher interest rates are waiting for Federal Reserve Chair Janet Yellen’s remarks on Aug. 26, when she may hint at whether the U.S. economy is growing fast enough to justify a rate hike this year. In the run-up to the speech, a measure of global foreign-currency volatility matched its highest level in almost a month.

For more on the importance of Yellen’s speech, click here

The real is still the world’s best performing currency in 2016 on wagers the new government will bolster growth, shore up the budget and restore confidence in Latin America’s largest economy. Suspended President Dilma Rousseff faces an impeachment trial expected to begin this week and wrap up this month.

The real may gain to 3 per dollar in the near term as investors seek out higher interest rates and boost inflows to Brazil should Rousseff be impeached, according to Italo Abucater, the head of foreign-exchange trading at Icap Brasil. The real could weaken to 3.5 per dollar if the Fed increases interest rates while Temer can’t win approval for measures aimed at showing up the budget, Abucater said.

“Should Yellen raise rates and at same time the Brazilian government fails to implement reforms, the market mood may sour,” Luciano Rostagno, the chief strategist at Banco Mizuho do Brasil, said in a telephone interview.

Swap rates on the contract maturing in January 2018, a gauge of expectations for interest rates, rose 0.04 percentage point to 12.73 percent.

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