ETF Trends
ETF Trends

The iShares MSCI Brazil Capped ETF (NYSEArca: EWZ), the largest exchange traded fund tracking Brazilian equities, was one of 2016’s best-performing single-country emerging markets ETFs. Making the strength of Brazilian stocks last year all the more impressive was that those bullish performances were notched in the face of lingering concerns about Brazilian banks.

That issue is particularly relevant for EWZ because the ETF allocates 36% of its weight to financial services stocks, more than double its second-largest sector weight, consumer staples.

Brazil’s central bank could be of assistance with more interest rate cuts, something that happened twice in the latter stages of 2016.

Brazil’s central bank has not hiked interest rates since last year. Brazilian stocks have rallied this year and banks in Latin America’s largest economy appear inexpensive, those institutions are faced with declining consumer credit quality. Additionally, some Brazilian states have recently delayed payment to public workers, potentially crimping the ability of those workers to repay loans taken from Brazilian banks.

“Two of Brazil’s largest public banks, Banco do Brasil (BdB) and Caixa Economica Federal (Caixa), are likely to see higher profitability, slower risk weighted asset (RWA) growth and increased capital adequacy as a result of its recently announced cost-cutting measures and greater focus on meeting capital requirements, says Fitch Ratings. These should be positive for the banks’ credit profiles over the medium and long terms,” said Fitch Ratings in a recent note.

Banks in Latin America’s largest economy appear inexpensive, those institutions are faced with declining consumer credit quality. Analysts believe the same is true of Brazilian banks. After a couple of years of contracting, Brazil’s economy is expected to resume growing this year, a factor Brazilian stocks and ETFs could already be pricing in.

“The cost-cutting plans of the two banks are part of broader initiatives that include refocusing on profitability and prioritizing meeting regulatory capital requirements over market share. As a result, Fitch believes that BdB is more likely to meet the gradually rising capital adequacy requirements from Basel III than suggested previously. On the other hand, Caixa’s capital position remains weaker than BdB’s, and it is too early to measure the results of the new measures,” notes Fitch.

For more information on the Brazilian markets, visit our Brazil category.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.