The last month with a negative balance of foreign capital at Exchange B3 was November 2021 — Foto: Divulgação
Amid a more challenging global context for risk assets, with uncertainties over the growth of the world’s main economies and volatility in commodity prices, foreign investors withdrew funds from the secondary market of the local stock exchange, in the spot segment, in April. The total deficit was R$7.67 billion, marking the first month in 2022 in which there was an outflow of funds. Before, the last month with a negative balance of foreign capital at Exchange B3 was November 2021.
The April scenario is the opposite to that observed during the first three months of the year. In January, foreign investors invested R$23.39 billion, followed by R$20.58 billion in February and R$ 21.35 billion in March.
With the support of international investors, benchmark stock index Ibovespa had an expressive rally and, on April 1st, reached its record level for the year, ending the trading session at 121,570 points, a 16% appreciation in local currency. In April, when the external flow showed a reversal, the performance of local stocks was the opposite: Ibovespa dropped 10.10%.
In this sense, market professionals have adopted distinct visions about the possibility of the outflow continuing in the coming months. While there is caution among players with the monetary tightening scenario and slowdown in global growth, there is also the reading that Brazil is a relative winner in this scenario.
“We still see Brazil as a relative winner and remain ‘overweight’,” says Bank of America’s (BofA) Latin America equity strategy team, composed by David Beker, Paula Andrea Soto, and Carlos Peyrelongue.
“Even though the foreign flow to Brazil’s local stock exchange was slightly negative in April (there were outflows of R$7.67 billion in April, but the balance is positive at almost R$58 billion year-to-date in equities), Brazilian commodities are expected to continue benefiting from global dynamics and the weaker real supports exporters,” say the professionals. Still, according to them, the activity data in Brazil is improving and interest rates may peak soon.
In its monthly allocation strategy report, BTG Pactual’s macroeconomics and strategy team says it is constructive on local equities, a view based on the thesis that there are companies that will benefit from a resilient commodities price environment, as well as those that perform better than Ibovespa in high interest rate (financial) environments, and those more exposed to high income consumption.
The strategists, however, highlight four pillars to evaluate the current market prospects: macroeconomic scenario, corporate earnings, fundamentals and valuations, and flow. The first three topics, according to them, inspire optimism for the stock market, with flow being the only one that demands more caution.
“After a great first quarter of foreign inflows into our stock market, April was marked by a negative flow reading, reflecting a volatile commodity and market environment, in general,” the professionals state. They point out that local funds also continue to contribute negatively to this equation, as a result of the redemption dynamics that the industry continues to experience.
Also according to B3 data, institutional investors withdrew R$2.446 billion from the secondary market in April, increasing the annual deficit to R$63.519 billion.
“We understand that this vector is still not expected to improve in May due to the market context and, consequently, demands greater caution,” point out the BTG’s professionals.
B3 also informed that in April individual investors were net buyers in the secondary spot market, with a positive balance of R$4.972 billion.
The flow of foreign capital to Brazil will be sustained in the medium term and there will be a new phase of investments towards fixed income assets, said Ricardo Mora, a partner and co-head of Latin America at Goldman Sachs. The American executive of Mexican descent spoke to Valor while in Brazil, his first interview with a local news outlet. Among his functions as the chief executive of the bank in the region, Mr. Mora oversees the executive committee formed by the five co-CEOs of the Brazilian operation.
With more than 30 years of experience in emerging markets, Mr. Mora sees the flow of foreign investment associated with the monetary tightening carried out by the Central Bank as anchors for the Brazilian currency. “When you have tighter monetary conditions, which allow for the interest rate differential to provide the anchor for the currency, you have portfolio flows that will continue to come into this country,” he said.
The current flow of funds has been “mostly geared towards equity,” the executive said, who believes there will be a new phase of this capital inflow directed to fixed income, which “will anchor the [Brazilian] currency.”
Read the main excerpts from the interview below.
Valor:We see a strong inflow of funds from abroad to the stock exchange. Is Brazil cheap for foreign capital?
Ricardo Mora: When you look at the broader environment or what’s going on in the markets, the perception of cheap can vary. And when you look at currency fluctuations in association with valuations, then what’s perceived to be expensive could be cheaper, from the dollar perspective. And so what’s happened in terms of Brazil specifically is we’ve had from our estimates, there’s been roughly about R$86 billion of foreign inflows. And that’s been mainly geared towards the equity markets. And so you’ve seen the commensurate appreciation of the foreign exchange [rate]. And so roughly R$80 billion have been equities. The remainder have been directed to fixed income, as a result of the CDI [Brazil’s interbank benchmark rate] being higher. From the equity portfolio flows that we’ve seen all these have been in the secondary market, mainly into the commodity space, banks and index. But we have not seen the money come into institutions that serve the local population, in the retail space. We haven’t seen it [inflows], for example, in fields that you would think would be more consumer led, it’s really been more focused on commodities and banks.
Valor:Is this inflow sustainable in the medium term?
Mr. Mora: It’s a good question. The economic engine in Brazil is strong. There will be continued inflows into Brazil, it’s not a matter of whether there’ll be some fits and starts in terms of valuations versus other countries. But in terms of how foreign investors see the country and its economic might, it’s very clear that you can see it in many different avenues. We have just discussed fixed income and equities, but we also look at foreign direct investment. And, through our global network, we’re in touch with sovereign wealth funds, high net worth individuals, family offices, and all have intentions to invest in Brazil.
Valor:About the Brazilian real, do you see the exchange rate back into the fundamentals?
Mr. Mora: From the perspective of Goldman Sachs, there was an overshooting of the currency in terms of depreciation. What we’re doing is more reverting back to the mean. More importantly, the inflows have helped, certainly, but the policies help as well. When you have tighter monetary conditions, which allow for the interest rate differential to provide the anchor for the currency, you have portfolio flows that will continue to come into this country now. So far, as we discuss, it’s been mostly geared towards equity, and I think the next leg will be fixed income flows. And a stable currency in the backdrop of a robust economy will then allow for continued fixed income flows. That will be the next leg, which then will anchor the currency.
Valor:Do you see the exchange rate below R$5 to the dollar after the elections, in October?
Mr. Mora: I wouldn’t be surprised if we go below that. And it’s a function of the sustainability [of debt]. And that will come down to government policy, fiscal, in the backdrop of what’s happening with the continued drop of inflation as a result of the Central Bank’s hikes. And so in that backdrop, you don’t have for example an overheating economy. There is a certain slack in the economy that will allow it to grow. And so in that backdrop, now, this comes down to the ability for continued growth. And that depends again on fiscal policy and a well-anchored currency.
Valor:Is there a risk of reversal of the inflow to the emerging markets if the Fed hikes interest rates more aggressively?
Mr. Mora: In terms of foreign inflows and broader markets, it’s difficult to gauge where capital flow will go. One thing is certain: in the backdrop of market volatility, investors tend to be less risk averse and to look for value. And they tend to look for assets where there’s strong underlying enterprise value. It’s already well known that there will be at least seven rate hikes in the U.S. If you look at the FCI [financial conditions index], it’s already tightened quite substantially, and the market has been pricing these tighter monetary conditions. From a valuation perspective, you can argue that Brazil is fundamentally strong in value. That’s why we’ve seen these commensurate flows.
Valor:Brazil started raising rates before the Fed. Can this help cushion the impact of interest rate hikes in the United States?
Mr. Mora: The Brazilian central bank was one of the first to move. And they were very early to the recognition that the word “transitory” was a bit of a difficult concept to describe the condition [of inflation] given the backdrop of rising prices. The Brazilian central bank has been quite aggressive and not just moving in small increments of 25 basis points. One sees they are very serious about [monetary] policy. In that backdrop, you’ve seen the currency react. This year, it’s been the combination of central bank policy and foreign inflows. And the Central Bank reacted appropriately. It’s widely recognized that this Central Bank had to react to what was happening on the ground with Covid. And when there was a recognition that inflationary pressures were building, again, reacted very quickly. When you look at the broader emerging markets, there have been certain countries that have been resistant to move as actively as the Brazilian central bank. And that’ll bode very well, in terms of future policy and the ability for foreign investors to know that the central bank and its policy will be reactive [against inflation] as needed, that there’s an independence of the central bank, that they will do what’s right.
Valor:Will the war in Ukraine affect the flow to Brazil?
Mr. Mora: When you look at emerging markets, it used to trade as a beta of one, meaning that if you had a problem in one market, it would affect the others. And now, what you have is a more of a focused view, in terms of recognizing that risks can be isolated, and that portfolio and capital flows will be affected in specific manners. The market now sees that there’s actually very independent and very specific regional differences between these countries and policies. In Brazil, for example, we did see certain portfolio flows leaving Eastern Europe, including Russia, and flowing into Latin America, specifically into Brazil. And so from that perspective, there was some shift in the portfolio flows more geared towards equities as you’ve had these tremendous growth and valuations in developed countries, specifically in the U.S. Of course, most of the capital that has been directed to the U.S. has done very well. It’s hard to take that money away from that performance, and spin it into another jurisdiction. That said, as the macro backdrop has become a bit more challenging in developed markets, we’ve seen these portfolio flows. Brazil, specifically, has very attractive valuations, and it also has the right components of what the world needs, like commodities. In that backdrop, it seems to me very clear that there’ll be continued interest in terms of portfolio flows, either in the private markets or as outright cross border flows.
Valor:Does Goldman see the sustainability-linked bonds as an opportunity in Brazil?
Mr. Mora: We have seen many new, modern operations in Brazil and we see many opportunities in the sustainable bond market. There are new concepts, like carbon credits, debt for nature swaps, the concept of being able to monetize what is already in Brazil in terms of [conserved] nature, for example, the ability to have carbon capture associated with Brazil’s [environmental actions]. Goldman has had a tremendous focus in terms of being able to help our clients that have access to these resources and to monetize them. I think you’re going to continue to see very innovative products around this space. That’s a very good thing in terms of outlook, because monetization means more preservation.
Valor:What are Goldman’s plans for Brazil and Latin America?
Mr. Mora: In Latin America, I would say that in the last two years we’ve had successive record years in the region across divisions. When you look at Latin America, Brazil is core to our focus in terms of our aspirations for the region. And when I specifically look at what’s happening here, and what we’d like to do, one is clearly investing in our people. There’s been a number of initiatives taking place here. For example, we’ve been very active in our hiring in the tech space. We hired 40 engineers last year, and our intention is to hire another 20 this year. Under the Brazil Management Committee, we’ve been able to progress our plans in Brazil.
The foreign investors have already brought almost R$80 billion to the Brazilian stock market this year, including purchases on the spot market, futures and stock offerings. In less than three months, Brazilian stock exchange B3 has already attracted 57% of the volume that came in last year. In the face of the Russia-Ukraine conflict, Brazil and other Latin American countries have benefited from the connection to commodities and the rotation of portfolios, from growth stocks to value stocks.
The question is how long this movement will last. There are those who consider that there is still a flow to arrive, since Brazilian assets are cheap in dollars. Others think that the new money won’t go that far because there are elections in Brazil, an unresolved fiscal and interest rate hikes in developed economies.
“Money looks for two things: growth differential and interest, where there is more interest. Ideally, if the region has a positive interest rate differential and also growth, at the margin, it will attract more capital. What the country experienced recently that performed so well was the fact of having depreciated prices. Brazil suffered before with a very devalued currency in relation to comparable peers and had no interest or growth. Press the forward button and the nominal interest rate is adjusted, but not growth,” says Marcelo Santucci, partner and head of international portfolios at BTG Pactual.
“Some of the money came from depreciation and interest rates, what is lacking is structural growth, reforms, there is the challenge of fiscal adjustment and uncertainty with the elections. To have the real big money, you need the structural. That’s one last unknown.”
For Mr. Santucci, this recent movement of foreign flow does not seem to be lasting. Despite the recent international setback, he believes that the diversification of currencies and regions remains a valid strategy for the Brazilians to smooth out periods of high tension as seen in global markets.
Long before the escalation of the war in Eastern Europe, there was already a reallocation of assets in global portfolios that to some extent accompanied the rise in U.S. Treasuries futures, says Leonardo Morales, partner at SVN Gestão de Recursos.
With the rise in long rates, investors reduced their exposure to growth companies, mainly in the technology sector, with more stretched multiples, and went to assets more linked to the commodity chain and banks, which had more attractive prices, segments considered value stocks in the traditional economy. “When you look at the Ibovespa, 60% is made up of commodities and banks. In this rotation, Brazil was favored, as well as all of Latin America: Peru, Colombia, Chile, all had an appreciation, and their currencies, too.”
Mr. Morales says that Brazil has lost a lot of weight in international indices in recent years and any increase brings a strong inflow of capital to the country. He also recalls that Russia usually has a similar participation in the benchmarks of emerging exchanges, but sales there didn’t even happen because the Russian stock market has been paralyzed since the invasion of Ukraine. “There is always a ‘smart money’ that must have sold before and bought Brazil and Latin America.”
It was a money flow that ended up giving outlets to equity managers and local multimarkets that continue to take redemptions, he adds.
A diagnosis of how long this movement will extend over time is, however, the “$1 billion question”, says Mr. Morales. His perception is that it will continue at least until the end of the quarter, in the face of inflationary pressures and commodity prices aggravated by the military confrontation between Russia and Ukraine, benefiting raw material manufacturers. “These are companies that are generating cash, without debt, the rotation from growth to value has room to continue.”
The intensity of the inflow of resources in these first months of the year in Brazil was really surprising, but it is basically explained by the fact that the domestic market is supported by commodity exporters. The global investor makes this association here and with other economies in the region, says Marcelo Arnosti, chief strategist for equities, multimarkets and offshore assets at BB DTVM.
He observes that most companies listed on the local stock exchange are evaluated as being of value, in which the expected return on invested capital is not in the very long term as in growth companies. “The [American index] S&P500 and the Asian one are more recognized as ‘growth’ by the weight of tech companies,” he says. “Asia lost part of its flow to Latin America and Brazil, which explains why the stock market is resistant and the real has been appreciating.”
For Mr. Arnosti, this movement is difficult to fully anticipate, but the rotation should continue, even if the dynamics more directly related to commodities falls.
Looking ahead, this inflow of funds will not necessarily be replicated in the next three, four months, says Marcus Vinícius Gonçalves, Franklin Templeton’s president in Brazil. “Things can go a different way. It does not mean that we have a negative reading, the reading is positive, there will still be flow, but the electoral uncertainty will weigh,” he says. “Brazil is stupidly cheap, the Brazilian stock market is cheap. It could be a very good year for allocators here and abroad.”
Some sectors of the Brazilian stock market were reasonably discounted. The war only accentuated this perception for the commodities segment, says Daniel Celano, head of third-party resources management at Schroders in Brazil. “But we see it as a very one-off thing. For foreigners, in fact, to place Brazil on the list of long-term investments, they need to see growth and GDP, for now, is uncertain.”
For him, the Brazilian exchange rate was closer to the fundamentals, given the good numbers of the external accounts, but he does not see the currency much lower than around R$5 per dollar.
He claims that inflationary concerns remain a global phenomenon, a side effect of the pandemic that ended up being amended by the military conflict in Ukraine. In Brazil, inflationary uncertainties, with growth, elections and the fiscal framework tend to take off the drive from the flow that has been observed.
/i.s3.glbimg.com/v1/AUTH_37554604729d4b2f9f3eb9ad8a691345/internal_photos/bs/2022/e/z/SaoxoyTZajFq4MWHzXVA/b3divulgacao.jpg)
/i.s3.glbimg.com/v1/AUTH_37554604729d4b2f9f3eb9ad8a691345/internal_photos/bs/2022/U/I/jLSZVcRTK86wFdBxnCvQ/170222goldmansachs058.jpg)
