Brazil No Longer a Sweet Investment
Tony is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Not long ago, one of the hottest places on the map for investors to get a great return was Latin America's biggest economy, Brazil. The country was in the sweet spot, blessed with abundant natural resources that the world's largest emerging country – China – wanted and needed.
But the country and its stock market have fallen on hard times in recent months. That is not news to the holders of the iShares MSCI Brazil Index Fund (NYSEMKT: EWZ). That ETF is down roughly a third from its 52-week high of 75.64 a share. And not all of the blame falls on the fund's largest components, Petrobras (15.6% weighting) and Vale (11.39% weighting).
The country's competitiveness is declining across the board. Take one of its leading core agricultural products, sugar, where it used to be the lowest-cost producer by far. Today, its cost of sugar production has risen to match that found in parts of Europe. Brazilian sugar companies, such as Cosan Limited ADR (NYSE: CZZ), are suffering due to a number of factors including a strong (although currently weakening) currency, lousy infrastructure -- which makes it difficult to get the crop from the fields to elsewhere -- and rising input costs such as labor.
That is leading trading companies to consider moving production to other areas of the globe, such as Africa, according to the CEO of Bunge Limited (NYSE: BG), Alberto Weiser. Bunge is a major producer and trader of sugar in the South American country. Brazil remains the dominant producer and exporter of sugar because its climate, water and land are ideal for growing the sweetener. However, the advantages of its once very low cost base are eroding away.
So what is holding back investment in Brazil's infrastructure that will help all of its industries flourish?
The answer is not surprising, actually, considering Brazil is a country where the power of the government is growing...red tape. Bunge, for example, has to wait five to six years in order to begin operating a port in Brazil. Investment into infrastructure in Brazil as a percentage of GDP today is lower than in the 1960s and 1970s. By the way, for those you who think this problem is unique to Brazil, the same holds true for the United States.
So what are the investment implications, besides the obvious one for EWZ?
It will definitely affect the sugar and related industries, such as the Brazilian ethanol industry. Ironically, the United States is just beginning to open itself to imports of Brazilian ethanol just as the industry hits the skids. The problems with sugar and ethanol will definitely hit Cosan and, to a lesser extent, its partner Royal Dutch Shell PLC ADR (NYSE: RDS-A).
In February 2010, Shell and Cosan formed a $12 billion joint venture. The deal basically combined Shell's vast global distribution network with Cosan's sugar and ethanol production capabilities in order to expand both domestic production and exports to places like the United States. But now, with rising costs and other problems, this deal may not bear fruit for years to come.
Another possible implication is that sugar production will fall in Brazil in the years ahead. Sugar prices are at 20-month lows thanks to excess global supply at the moment. But any cut in the Brazilian crop will give a boost to sugar prices, benefiting the holders of ETFs such as the Teucrium Sugar Fund (NYSEMKT: CANE). This ETF holds sugar futures contracts, which trade on the ICE.
The only thing that may change these scenarios somewhat is if Brazil wins its “currency war” and drastically reduces the value of its currency, the real. However, the glaring lack of investment into the country's woeful infrastructure will remain a sore spot.
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