Once-Unloved CoCo Bonds Now Give Brazil Traders a Big Windfall

  • Banco do Brasil’s notes post top gain among similar EM debt
  • Temer’s government says it won’t pressure banks to lend

Banco do Brasil SA’s riskiest bonds are back in favor, less than four months after investors couldn’t dump the securities fast enough.

The state-controlled bank’s $1.6 billion of contingent-convertible notes have gained 9.3 percent since Michel Temer became Brazil’s acting president May 12, the most among comparable debt in emerging markets. The securities, which have no set maturity and are vulnerable to being written down to zero if capital ratios fall too low, have rebounded since bottoming out in February, when now suspended President Dilma Rousseff was pressuring state banks to boost riskier and less profitable lending to revive the economy. 

Investors are regaining confidence in Banco do Brasil as Temer’s government says it won’t use state lenders to pump cheap credit into Latin America’s biggest economy, abandoning a policy that Rousseff had promoted during her five-year tenure. Since taking office, Temer has also the replaced chief executive officers at the banks, including Banco do Brasil’s. Last week, the bank, Brazil’s largest by assets, proposed buying back $200 million of the so-called CoCo bonds.

There’s a “feeling in the market that the bank will be more protected from political influences now,” said Joao Augusto Frota Salles, an analyst at consultancy Lopes Filho Consultoria de Investimentos SA in Rio de Janeiro. “It will have a more technical management focused on efficiency and profitability. On top of that, the bank is trying to take advantage of the low cost of the notes with the buyback. The tendency for their price is to go up in the near term, so better to buy it now.”

Banco do Brasil’s press office declined to comment on the performance of its notes.

Before Brazil’s Congress voted to start the impeachment process against Rousseff on May 12, her government had ordered state-controlled banks to offer as much as 83 billion reais ($24 billion) in extra credit for businesses this year to help them weather a recession and avoid laying off workers.

Brasilia-based Banco do Brasil said on May 12 that its first-quarter profit tumbled and that its provisions for bad loans surged to the highest in at least two years.

The rally in Banco do Brasil’s notes is also part of surge in financial assets across Brazil as investors bet Temer’s government will be able to pull the country out of its worst recession in more than a century.

“CoCos issued by Banco do Brasil have benefited from improved market sentiment and expectations that the new government’s economic policies will fuel a recovery,” said Brigitte Posch, the head of emerging-market corporate debt at Babson Capital Management, which has about $200 billion in assets under management.

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