Market sees real appreciating further in the short run
Nelson Rocha Augusto — Foto: Leonardo Rodrigues/Valor
The favorable environment for the performance of the Brazilian real remains in place and the perception that the exchange rate still has room to appreciate in the short term remains on the radar of market participants. The improvement in risk perception, the resilience of economic activity, and the appetite for Brazilian assets have supported the real, and not even the prospect of a reduction in the key interest rate Selic has weighed on the Brazilian currency.
On Monday, the exchange rate fell 0.9% in the spot market to close at R$4.775 to the dollar, the lowest level since May 31, 2022. The real was the best-performing currency of the day and was out of sync with the behavior of its emerging market peers. In the year, the dollar has already depreciated by 9.53% in the domestic exchange market, and some expect an even greater movement.
The revision of Goldman Sachs’s exchange rate forecast caught the attention of market participants, because of a bold bet on the real. The bank’s strategists lowered the forecast for the exchange rate to R$4.60 from R$4.90 in the three-month interval, while the estimate for six months, that is, at the end of this year, went to R$4.40 from R$4.85. “While a small pullback after a strong rally is certainly possible, we believe the exchange rate still has room to appreciate further before it is considered expensive, as it is still around 10% cheap relative to our fair value estimate of around R$4.30 to the dollar,” the strategists say.
Among the reasons for optimism on the appreciation of the real, Goldman Sachs cites the high level of Brazilian real interest rates; the prospect of capital inflows into prefixed security with the start of the Selic cut cycle, and the recent revision of Brazil’s rating outlook from stable to positive by S&P Global. “To the extent that the decision reflects a broad improvement in macro fundamentals, it is also positive for the exchange rate. And as long as the domestic backdrop remains supportive and interest in the carry trade remains high, we believe the real can continue to generate positive total returns in the coming months,” Goldman Sachs’ strategists say.
The suggestion that the real is likely to continue to be supported by the high level of real interest rates is shared by Sandro Mazerino Sobral, head of markets at Santander, who points out that the “excessively tight” monetary policy could lead to a new overshooting of the exchange rate.
In a report sent to clients, and circulated among market participants on Monday, Mr. Sobral points out that if the Central Bank adopts a strategy of cautious interest rate cuts and takes the Selic to around 12% by the end of the year, the level of real ex-ante interest rates would still be around 8%. “If this happens, our view for the real will be really ‘wrong,’ with the currency likely to break last year’s lows (R$4.60 to the dollar), causing another big movement in the exchange rate.”
It is also worth noting that the appreciation of the real has coincided with a significant decline in the level of the one-month implied volatility of the domestic exchange rate, a measure that serves as the market’s barometer of the exchange rate’s expected future movement. From around 20% at the beginning of the year, the implied volatility reached 12% on Monday, the lowest level since the outbreak of the pandemic in early 2020.
“When the market believes that the scenario is going to be calmer or that it is going to be a calmer environment, the implied volatility gets lower,” said Marcos Weigt, head of treasury at Travelex Bank. “It’s a lower risk premium, and it usually happens when we see an appreciation of the real.”
And if a calmer environment has led to lower volatility, the possibility that this scenario will make the currency more attractive, creating a virtuous circle, comes on the radar. “It’s this maxim: What comes first? The chicken or the egg? Of course, that doesn’t always happen. It also depends on how much the currency carry trade expands and how much it is devalued,” he said.
BRP CEO and chief economist Nelson Rocha Augusto say he sees room for the exchange rate to appreciate further in the next two to three months. “The interest rate differential is absurdly high, and we think the Central Bank is late in starting a cycle of interest rate cuts. In addition, the agricultural harvest is very large, which has made the trade balance much more exuberant than imagined,” he said.
Another factor cited by the executive is the fact that foreign direct investment continues to come in at a very robust level with prospects for expansion. He cites a PPP package, the improvement in the perception of Brazil’s macro risk with the fiscal framework; and the possibility that the tax reform, if approved by Congress, will result in efficiency and productivity gains.
“Therefore, we believe that the exchange rate could continue to appreciate a bit more in the short term. However, we believe that part of this movement could be reversed by the end of the year, and we maintain our forecast of an exchange rate at R$5 to the dollar in December,” says Mr. Rocha.
For him, in the last quarter of the year, the factors that have supported the real at the moment may begin to give way to other factors that are unlikely to provide as much support to the exchange rate. “In our scenario, we see the Selic at 11% by the end of the year, which would be a relevant reduction in the interest rate differential; and on the other hand, the stronger growth in activity could make room for an increase in the volume of imports,” adds the economist.
Mr. Rocha also mentions the agricultural side, where the probability of supply expansion is unlikely to be as significant later in the year of El Niño as it is now; and a recovery in China, which is expected to increase demand for iron ore and oil, which could help the Brazilian trade balance, “but not in the same proportion as agricultural commodities,” he said.
*Por Victor Rezende, Arthur Cagliari — São Paulo
Source: Valor International