Brazil’s currency and equities rally on nascent economic improvement

Brazil may be just weeks away from hosting the 2016 summer Olympics, but the country is mired in its deepest recession since the 1930s as a major corruption scandal at state oil company Petrobras plays out. Still, there are growing signs that an economic turnaround is in sight, and the stock market is already recovering strongly.

Oil pipeline
Source: Bloomberg

The Petrobas corruption scandal has already likely cost Brazil’s suspended president Dilma Rousseff her job, but with six out of ten Brazilian congress members facing some kind of criminal investigation it’s difficult to see how everything will entirely play out.

Nonetheless, the prospects of imminent government change have prompted investors to start to place major bets that the Brazilian economy could be set to outperform dramatically. Brazil’s IBOVESPA index (Brazilië 60 on IG) has been one of the best performing stock indices in 2016, gaining over 18% year-to-date. The Brazilian index saw a massive rally in February and has continued to find very solid support at the 48,000 level. There’s a very good chance that the Brazilian market will end 2016 as one of the best performing markets in the world.

While Brazil’s economic statistics still show that it is in the depths of the worst recession since the 1930s, there are a range of signs showing that the worst may be over. Brazil’s first-quarter 2016 Gross Domestic Product, or GDP, contracted a further 0.3% quarter-on-quarter, but this was the smallest contraction since the fourth-quarter of 2014. Year-on-year GDP growth also trimmed its declines compared with the fourth-quarter of 2015 as well.

Brazil’s industrial production, while still in deep contractionary territory in year-on-year terms, has now seen month-on-month increases in three out of the last four months. Year-on-year growth in industrial production is now higher than annual growth for the first time since June 2013. Another supportive sign that the worst of the declines may be over.

This turnaround has not been lost on the Brazilian real (BRL), which has strengthened 16.5% against the US Dollar (USD) this year. If the political situation begins to calm down and if Brazil’s economic data steadily improves throughout the year, there is a good chance the USD/BRL ends the year around BRL2.6, a level last seen in February 2015.

The rally in the currency is also helping to tamp down inflation somewhat. Brazil’s Consumer Price Index inflation has steadily come down after peaking at 10.7% year-on-year growth in January, and is now tracking at around 9.3%, the lowest level since the first-half of 2015. The strengthening of the currency has helped diminish the impact of tradables inflation for the economy, and if both these trends continue it may start a nascent recovery in Brazilian consumption.

This piece is part of our series on Rio 2016. For expert analysis, Brazilian trading opportunities, and more, take a look at our Rio 2016 page.

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