There’s an awful lot of money in Brazil. This week, according to Morgan Stanley Capital International, whose indices are used as benchmarks by most international money managers, it has taken over as the world’s largest emerging market.
VIDEO
John Authers on Brazil’s impressive bull run
A rally for Brazilian stocks combined with falls in China has left Brazil with a slightly larger market value – in terms of the stocks that are available to foreign investors. Now accounting for 14.95 per cent of the MSCI emerging markets, it is also bigger than Korea (13.69 per cent), Russia or India.
This owes more to big geopolitical judgments than to any close assessment of Brazil. It is the chief beneficiary of resurgent confidence in the “decoupling” thesis – the notion that demand for raw materials in the developing world will allow emerging markets to grow even if there is a US recession.
It also benefits from a belief that commodities provide a hedge against inflation.
Further, Brazil’s Bovespa index shows a startling sensitivity to “surprise” interest rate cuts in the US. It was falling until the Federal Reserve cut the discount rate on August 17 last year. Since then it has gained 63 per cent, in dollar terms – while the Shanghai Composite fell 1.4 per cent.
The pattern repeated. The Bovespa sold off, but since the Fed’s rate cut on January 22, it has gained 33 per cent, while Shanghai fell 10 per cent. So the trading rule appears to be that when the Fed cuts rates, funds buy countries that export commodities, and sell short the countries that import them.
Looking at Brazil more closely, progress towards fiscal reform remains sluggish. Worries about inflation remain intense.
Its success over the past six years is unquestionable, but its current valuations look overblown. It has been a beneficiary of the commodity bull market; it may yet be a victim if commodities reverse.
