Buying Opportunity in Brazilian Stocks
Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The Brazilian economy is showing a considerable slowdown, and even a full-blown recession is not out of question for the months ahead. Brazil is, however, a very strong country with enviable long-term prospects and one of the most attractive growth stories around the world. With valuations becoming increasingly attractive, investors may want to consider the possibility of capitalizing on the current weakness as a long-term buying opportunity.
A GDP proxy released on Thursday by the Brazilian central bank showed uninspiring growth levels, with GDP contracting by 0.02% seasonally adjusted in May from April. Compared to May last year, growth was just 0.4%. That's why the monetary institution decided to reduce its interest rates by 0.5% to a record low of 8%.
This 8% level is still much higher than the interest rates observable in most other countries, which shows that the authorities have plenty of room to maneuver by cutting rates further. Monetary authorities are anticipating more stimulatory measures in the future, as the Central Bank's statement says:
At this moment, Copom (the central bank monetary policy committee) believes that the risks to the inflation outlook remain limited. The committee also notes that given the fragility of the global economy, the contribution of the external environment has been disinflationary until now. Therefore, continuing the process of adjusting monetary conditions, Copom decided unanimously to reduce the Selic rate to 8 percent per annum, without bias.
Brazil has kept interest rates high in recent years in order to keep inflation at bay, and now that inflationary pressures are under retreat, the country has a lot of dry powder to invest in pro-growth measures. Authorities have been quite conservative on the fiscal front, too. The South American giant's debt has been rated investment grade since 2008, and tax reductions are another tool that the government is expected to use in the following months in order to reinvigorate growth if necessary.
There is a reason why BRIC starts with B -- Brazil has an abundant dotation of natural resources, a very dynamic population and a growing middle class, which together provide the energy for superior growth prospects over the following years. The country is not immune to cyclical fluctuations, but it has implemented responsible fiscal and monetary policies that give the government many tools to fight recessionary pressures when required.
AmBev (NYSE: ABV) is the largest brewer in Latin America. It produces, distributes, and sells beer and PepsiCo products in Brazil and other Latin American countries. AmBev is the leader in six markets: Brazil (69% share), Canada (41%), Argentina (77%), Bolivia (97%), Paraguay (96%), and Uruguay (97%). The company has rock solid competitive advantages given by its valuable brands and unmatched distribution network, and consumption per capita is expected to keep growing strongly with rising income levels for the middle classes in Brazil and other markets.
The company's management has been very efficient at generating superior profitability for its investors -- AmBev has operating margins in the 40% zone, which is above the ratios of other companies in the industry. The company also rewards investors with a 3.9% dividend yield and has regularly increased payments. Commodity prices can affect profit margins, since they are an input for this company, but AmBev is strong enough to translate higher prices to consumers over time.
Itaú Unibanco (NYSE: ITUB) is the country's biggest non-government-owned financial institution and it has a solid track record of profitability. The bank is among the market share leaders in virtually all of its product offerings. Notably, in Brazil it is the dominant player in credit cards, vehicle finance and other consumer credit products, and investment banking. Although the economic slowdown may produce negative effects such as a rise in uncollectable loans, the company has a solid financial position and its growth opportunities look clearly attractive due to its exposure to sectors like real estate and consumer loans, which should remain strong as Brazil keeps delivering above average growth rates in the long term.
Petroleo Brasileiro (NYSE: PBR), or Petrobras, is the main oil company in Brazil and the biggest listed company in Latin America. The Brazilian government is a major partner in Petrobras and also guides regulatory policies that can affect the company's profitability and strategic decisions, so investing in Petrobras means being exposed to strong government intervention. Investors have been quite concerned about these kinds of risks lately, and it’s certainly a factor to watch regarding this company.
The most interesting aspect about Petrobras is that the company has discovered many fields with enormous potential in Brazil's shores since 2007. Petrobras is expected to invest more than $200 billion in offshore projects that could easily triple the company's current production in the following years, if not more. Upside potential is abundant in Petrobras, but risk is also considerable due to governmental and political intervention in such a sensible industry.
Company-specific risk can be reduced via efficiently diversified vehicles like ETFs. The most traditional instrument to invest in Brazil is the iShares MSCI Brazil Index ETF (NYSEMKT: EWZ), which holds more than 70 large companies with a heavy focus on basic materials, energy and financial services. The ETF yields a 2.85% in dividends, which provides a considerable payment while investors wait for capital gains in the long term.
A more attractive alternative, however, could be Market Vectors Brazil Small-Cap (NYSEMKT: BRF), which focuses in small-cap Brazilian companies. This ETF is much smaller than EWZ with assets under management of nearly $467 million, but it provides higher exposure to the consumer and industrial sectors, which stand to benefit enormously from Brazil's economic development in the long term. This ETF carries a 2.76% dividend yield and provides access to businesses with more exposure to internal consumption growth and less government intervention.
Solid economic fundamentals and attractive growth prospects make of Brazil one of the most interesting countries to add international diversification and exposure to emerging markets to a long-term portfolio. And the current economic slowdown can be considered a buying opportunity in strong companies with big upside potential.
acardenal has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend Petroleo Brasileiro S.A. (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. If you have questions about this post or the Fool’s blog network, click here for information.