The iShares MSCI Brazil Capped ETF (NYSEArca: EWZ), the largest exchange traded fund tracking Brazilian equities, is up 12% this year and with Latin America’s largest economy sporting improving fundamentals, there could be more upside to come for Brazilian equities.
A potential catalyst for EWZ and Brazilian stocks is the country’s effort to regain its investment-grade credit rating. President Michel Temer is trying to restore confidence in the country’s finances after losing its investment-grade rating in 2015.
“Under pressure by his allies in Congress and business groups to adopt pro-growth reforms that could snap the economy out of a deep recession, President Michel Temer chose to keep tax hikes to a minimum,” reports Reuters. “Temer will issue a decree to end the tax breaks, but the measure needs congressional approval to become effective. Meirelles said he expected the tax breaks to be eliminated early in the second half of the year.”
Some investors are reevaluating Brazilian stocks, something that has benchmark indexes there trading at the highest multiples in a decade. However, Brazilian assets can be more appealing with the help of a weaker dollar and stronger commodities prices. The Brazilian real has been one of the better-performing emerging markets currencies this 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.
“Hefty tax breaks and years of heavy spending caused deterioration in Brazil’s fiscal accounts, helping push the economy into its worst recession in a century,” according to Reuters. “A ballooning overall fiscal deficit, which accounts for about 10 percent of the country’s gross domestic product, led major rating agencies to strip Brazil of its coveted investment- grade rating in 2015.”
Earlier this month, Credit Suisse said Petrobras (NYSE: PBR), Brazil’s state-run oil company, could offer upside of up to 20%. Petrobras is one of the largest holdings in EWZ.
For more information on the Brazilian markets, visit our Brazil category.