Bond Traders Blindsided by Inflation Shock Are Punishing Brazil

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Bond investors in Brazil are reeling.

Just when they were starting to regain confidence in the country’s inflation-fighting efforts, the government said Wednesday that the rate unexpectedly jumped in May to an 11-year high of 8.47 percent. Traders wasted no time registering their discontent. Yields on Brazil’s benchmark bonds due 2025 have risen 0.22 percentage point to 12.73 percent, even as average yields fell on emerging-market local-currency debt.

The selloff reflects Brazil’s inability to tame inflation as it boosts interest rates to a six-year high and the economy heads for its worst contraction in a quarter-century. Policy makers have vowed “determination and perseverance” to stem the surge, fueling bets they will boost borrowing costs for a seventh straight time in July.

“It all comes down to inflation, which was way worse than the market anticipated,” Juan Carlos Rodado, the head of Latin America research at Natixis, said from New York. “Yields on these nominal bonds will keep rising as the market begins to assimilate the central bank’s hawkish tone.”

The central bank will continue monetary-policy adjustments until inflation projections are in line with its 4.5 percent target, a member of President Dilma Rousseff’s economic team said Thursday, asking not to be identified because the discussions aren’t public.

Bank President Alexandre Tombini last week lifted the key rate by a half-percentage point to 13.75 percent. Brazil is the only member of the Group of 20 nations to raise borrowing costs this year.

Consumer prices rose 0.74 percent in May, faster than all estimates from 42 economists surveyed by Bloomberg, whose median forecast called for a 0.59 percent increase.

The real fell 0.7 percent to 3.1114 per U.S. dollar Friday as of 2:04 p.m. in New York.

The report is undermining a rally in Brazil’s local notes due 2025 that helped yields drop from a 13-month high of 13.49 percent in March, data compiled by Bloomberg show.

“This is a central bank that has lost a lot of its credibility over the last few years,” said Alejo Czerwonko, a strategist at UBS Wealth Management, which oversees $1 trillion including Brazilian bonds. “It is paying the cost to regain credibility.”