Brazil Ratings Put Under Review for Cut to Junk by Moody's

  • Brazil currently rated Baa3, lowest level of investment grade
  • S&P had already cut the country's rating to junk in September

Brazil’s sovereign rating was put on review for a cut to junk by Moody’s Investors Service as the economy worsens and the government struggles to push through measures that would shore up the budget.

A turnaround in Brazil’s economic and fiscal performance "now appears unlikely in 2016," Moody’s said in a statement Wednesday. Because of internal rules, some institutional investors such as pension funds can’t invest in securities labeled junk by at least two of the major rating companies, so a reduction by Moody’s after Standard & Poor’s cut its classification to sub-investment-grade in September could lead to a selloff in Brazilian assets. Fitch Ratings has the country at the lowest level of investment grade.

"Fiscal and economic activity indicators continue to sharply deteriorate with no clear sign of when they will bottom out," Moody’s said. "With political stalemate complicating the passage of fiscal adjustment measures, the likelihood that the government will be able to report primary surpluses large enough to stabilize debt ratios has diminished."

The nation’s $4.3 billion of sovereign bonds due 2025 erased gains after Moody’s move. Bond risk, as measured by trading in five-year credit-default swaps, rose about four basis points after the decision to 456 basis points.

Moody’s cut its rating on state-controlled oil producer Petroleo Brasileiro SA one step to Ba3, citing the difficulty the company may face in refinancing its debt amid slumping crude prices, investor pessimism on Brazil and negative free cash flow. It put the rating on review for further cuts.

The ratings company typically concludes its reviews in 90 days, analyst Samar Maziad said in an interview. Moody’s had cut Brazil’s rating to Baa3, the lowest level of investment grade and in line with Indonesia, India and Turkey, on Aug. 11. S&P has a negative outlook on its grade for the country.

Moody’s moves add pressure on President Dilma Rousseff and her economic team to overcome resistance in Congress to measures aimed at turning around the worst budget deficit in two decades even as she fights efforts to remove her from office. The decision by a top lawmaker last week to start impeachment proceedings against Rousseff "casts further doubt on the prospect of cooperation between Congress and the president to approve meaningful fiscal consolidation measures in 2016," Moody’s said.

On Tuesday, lawmakers approved the opposition’s list of nominees for a committee that will weigh in on whether to seek Rousseff’s ouster. Hours later, Brazil’s Supreme Court suspended the formation of the committee. The 65-member committee is supposed to hear Rousseff’s defense and recommend whether the full lower house should allow impeachment hearings to start in the Senate.

The vote in Congress came soon after the release of a letter from Vice President Michel Temer in which he took a personal swipe at his boss. Temer said Rousseff had a "complete lack of trust in myself and the PMDB," referring to the coalition party he presides that will be key in determining whether she has enough votes to avoid impeachment.

"An eventual downgrade to junk will largely depend on the political scenario -- if the impeachment process indeed takes a long time, implying political paralysis, it could come before the usual 90 days," Barclays Plc economist Bruno Rovai said from New York. "Our strategists see $1.6 billion of forced net selling when Brazil loses investment grade-status."

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