Financial players work with scenario without major changes in fiscal framework, regardless of election’s outcome
Anyone looking at the price of financial assets, such as the stock market and currency exchange, in the week leading up to the first round of elections could assume that politics is causing fear and instability in the financial market. But this time it is mainly the international environment, and not the election, that disturbs investors and explains why the exchange rate has returned to close to R$5.40 to the dollar.
The definition of the next government is monitored with relative serenity by the financial players, who since the beginning of the campaign have been working with a scenario without major changes in the fiscal framework, regardless of the outcome of the election. And, more recently, in line with the evolution of the polls, Mr. Lula da Silva’s victory is already “priced in”, as the market jargon has it.
A good measure of the market’s “cold blood” is the exchange rate. This year, it has a 4.06% drop. In the same period in 2018, a year of intense electoral instability, the exchange rate went up 16.33%, and in 2014, the year of Dilma Rousseff’s re-election, it advanced 4.34%. To get an idea, the Mexican peso, part of an economy comparable to Brazil’s, fell 1.76% against the dollar this year, retreated 4.33% in 2018, and advanced 3.51% in 2014.
The five-year Credit Default Swap (CDS), meanwhile, which measures the risk of a country’s sovereign debt default, is at 300 basis points today. It is higher than it was in the same period in 2018, because today the international environment is much more averse to risk due to interest rate hikes by the world’s main central banks. But in relative terms, the Brazilian CDS is better: the difference to Mexico’s CDS is 108 points today, and it was 151 in 2018.
“There is a part of the market, as well as in society, that thinks the poll is wrong and that it may have a more advantageous result for Bolsonaro in the first round, that he will prove more competitive,” says Luciano Sobral, chief economist at Neo Investimentos. “But those who look at polls, which is the majority of the market, work with a scenario of Lula’s victory and think they need to prepare for the new Workers’ Party government.”
Valor spoke with market managers and analysts, many of whom have worked in the government. And the general view is that the scenario drawn by the market takes into account that the Workers’ Party government, if elected, will adopt some fiscal framework and would not, at least immediately, take populist measures that lead to a break from the fiscal point of view.
Although the Workers’ Party candidate insists on saying he will end the spending cap, those who worked closely with then-president Lula da Silva say they believe he knows the importance of having the market in his favor, and the consequences of embarking on a heterodox economic policy. This does not mean that the signs are of a completely pro-market agenda. Little progress is expected on reforms.
And, given the prospect of economic weakness, a Workers’ Party government could resort to measures such as the use of state-owned banks to stimulate credit or changes in the minimum wage adjustment rule — risks that, according to investors, explain a dose of “risk premium” in assets. It is estimated that the exchange rate could be closer to R$5 to the dollar, taking into account the fundamentals of the Brazilian currency.
Tony Volpon — Foto: Claudio Belli/Valor
“The market has already adjusted to Lula’s victory, but not in the first round,” says Tony Volpon, chief strategist at WHG and former director of International Policy at the Central Bank. He emphasizes another concern of investors: that Mr. Lula da Silva will win Mr. Bolsonaro by a very narrow margin, and the election will be contested.
“Today this is the biggest risk, a political instability coming from the contestation of the election,” he says. This growing uncertainty also contributes to the increase in the risk premium on assets, in his opinion. “As nobody knows what can happen, the market puts a premium on the assets,” he says.
A scenario in which Mr. Bolsonaro performs better than expected at the polls still represents a chance for some upside. This is because, with him, it is already known that Paulo Guedes remains in charge of the economy.
For Mr. Sobral, with Neo Investimentos, this effect would be marginal on the exchange and interest rates, and clearer on the stock market, particularly on shares of state-owned companies, such as Petrobras, Banco do Brasil, Eletrobras and other companies in the electricity sector. This is because of Mr. Guedes’ commitment to the privatization agenda. In addition, there is still much fear that a Workers’ Party government would be more interventionist in the management of state-owned companies.
“I think the market is looking much more there at the external scenario than the elections here, because the type of government of both candidates who are leading the polls is already known”, says Gabriela Joubert, chief analyst at Inter. “Of course, a victory by a government less favorable to privatizations could weigh a little on the shares of state-owned companies, bringing volatility. But overall, we’re not seeing much preference for one candidate or another.”
For Fabio Akira, partner and chief economist at BlueLine, the market worked throughout the campaign basically with three scenarios. In one of them, with Mr. Bolsonaro’s victory and the permanence of Paulo Guedes in the Economy Ministry, the performance of assets would be “mediocre,” but there would be a low risk of serious errors from the economic point of view.
Mr. Lula da Silva’s victory, on the other hand, whose probability has become much higher with the polls, is classified as binary. That is, he could either repeat the heterodox policy adopted by former president Dilma Rousseff, which would be badly seen by the players, or follow the same line as that of the first Lula da Silva administration.
Some gestures made by the candidate, such as the choice of Geraldo Alckmin as vice-president in his ticket and, recently, the approach of former minister Henrique Meirelles, have given more weight to this third scenario. Although the market sees the chance of Mr. Meirelles, in fact, being chosen as the name that will assume the Economy, Mr. Akira says that this element shuffled the game and makes less obvious to predict a positive reaction in case president Bolsonaro surprises in the polls. “Does the market prefer the Bolsonaro/Paulo Guedes or the Lula/Meirelles combination?” he says.
If a victory of Lula da Silva, already contemplated in the prices, is not expected to provoke strong price adjustments, it is also necessary to consider that the typical honeymoon with the new government may be shorter, says Mr. Akira. “What you can have is a calm process in the transition and, if Lula wins, a gradual attrition. That is my baseline scenario,” he says.
*By Lucinda Pinto — São Paulo
Source: Valor International