BRIC by BRIC: Brazil
Brazil often seems to be the forgotten BRIC, with China and India drawing huge attention as the new global economic heavyweights, while oil-rich Russia is seen as play on the price of crude.
Brazil, on the other hand, seems to be geographically off the investment radar in south America, for a long time a region that investors avoided due to concerns it was an economic and political minefield. Those investors are behind the curve; Brazil has changed dramatically in the last decade and its strong growth looks set to continue.
CHANGED DAYS: A STRONG ECONOMY IN ALL WEATHERS
Brazil was one of the first markets to recover from the western-inspired credit crunch. Not bad for a country that a decade earlier was more likely to be the cause of credit crises. Much has changed in the last decade: the Brazilian economy has produced strong and sustained economic growth and its equity market has delivered excellent returns.
Just as importantly, when the wheels came off the global growth engine in 2008, Brazil showed an ability to recover under its own steam that surprised many observers in the developed world.
The Brazilian economy is expected to grow by 6.4% in 20101, a figure that has been repeatedly revised up in recent months as more evidence of Brazil’s robust recovery has come through.
THE EMERGENCE OF A NEW ECONOMIC SUPERPOWER
Brazil is already the world’s ninth-largest economy2 and its strong growth means that it is poised to enter the top five in the world within the next fifteen years. The economy has certainly benefited from strong commodity prices, which have helped to produce trade and fiscal surpluses. However, there is more to Brazil than coffee and soybeans.
The economy is, in fact, relatively diverse compared to its emerging market peers, with large and developed agricultural, mining, manufacturing and service sectors, as well as a large labour pool.
With a population of around 198 million, Brazil is the fifth most populous country in the world and the fifth-largest by land mass3. Critically, the country is now beginning to exploit its natural resource and labour advantages, as economic growth allows investment in the corporate sector.
Brazilian exports have grown rapidly in the last two decades, creating a new generation of wealthy entrepreneurs. Major export products include aircraft, electrical equipment, automobiles, ethanol, textiles, footwear, iron ore, steel, coffee, orange juice, soybeans and corned beef. However, the economy also benefits from a relatively high and growing level of domestic consumption that is being driven by an expanding middle class.
STABLE GOVERNANCE HAS CREATED A STABLE, CAPITAL-FRIENDLY ECONOMY
Much of Brazil’s transformation can be put down to sensible macroeconomic policies on the part of the Brazilian government and central bank, which have created the right conditions for growth.
Monetary targeting, exchange rate flexibility and fiscal consolidation have brought inflation under control and created a lower interest rate environment. In turn, this has made Brazil an attractive destination for capital flows.
The election of socialist president, Luiz Inácio Lula da Silva, raised concerns in capital markets in 2002 – concerns that led to Brazil receiving an IMF rescue package of $30.4 billion to restore confidence4. The fears were ultimately misplaced as ‘Lula’s’ administration brought, first, stability and, then, growth to the economy. So much so that Brazil’s central bank paid back the IMF loan in 2005, despite the fact it was not due to be repaid until 2006.
AN ENERGY POWERHOUSE IN THE MAKING
One of the key drivers of Brazil’s growth is its emergence as an energy superpower. Brazil is currently the world’s tenth-largest energy consumer, however much of its energy comes from renewable sources. In fact, more than 80% of Brazil’s electricity is supplied by hydroelectric
projects. Brazil is also one of the leaders in bio-fuels, especially ethanol made from sugar cane.
Over 90% of new cars in Brazil have ‘flex-fuel’ engines, meaning they can run on ethanol or gasoline or a mixture of the two.
The discovery in 2007 of potentially enormous deposits of oil and gas off Brazil’s coast attracted widespread attention. Estimates put the size of the find at 80 to 100 billion barrels – enough, added to Brazil’s current reserves, to put it among the world’s top five producing countries.
Given the strides Brazil has made in renewable energy, the discovery promises to transform the country into an oil-exporting powerhouse and shake up the market for energy supply.
Brazilian oil heavyweight, Petrobras, will spend an initial $28 billion on the fields as part of its $174 billion investment programme for 2009-2013. There will also be significant spin-off benefits for the
broader economy as investment is made in the country’s shipbuilding and oil services industries.
While the fields offer great promise, there are challenges. The government’s ambition to maximise Brazil’s income from its oil wealth could create problems for foreign investors. The reserves are
7,000 metres below sea level, beneath a layer of salt and technically difficult to develop. The latter fact is likely to make international involvement inevitable and desirable. Several western companies have already formed partnerships with Petrobras to explore and develop fields in the region, such as ExxonMobil, BG, Galp, Repsol and Royal Dutch Shell.
A RETAILERS DREAM?
The benefits of sustained economic growth are increasingly being felt across the Brazilian economy. Unemployment has fallen significantly and real wages have increased markedly over the last decade. Moreover, the demographics are very supportive – most people in Brazil are of working or consuming age, with relatively few older dependants to support.
Nearly 67% of people are between 15 and 64 years of age, with the median age being a relatively young 28.6 years.
This means a huge chunk of Brazil’s population are not only working but are in the consumption sweet spot.
Add to this the fact that credit markets are opening up, thanks to lower rates and more attractive loan periods, allied with the fact that Brazilians like to spend, are persuaded by quality, and are often loyal to brands and you have a consumption boom in the making. Global retailers such as Wal-Mart, Carrefour and Avon Cosmetics have not been slow to notice and have built a presence in the market.
Drinks company, Bebidas das Americas, and pharmacy retailer, Drogasil, are just two examples of Brazilian companies that have the potential to deliver to attractive earnings growth.
Clearly, the scope for product penetration and mortgage penetration in a country of this size growing this strongly is massive.
A FLOURISHING CORPORATE SECTOR AND NEW ISSUES MARKET
Brazil has been prolific in bringing new companies to market. Santander’s Brazilian subsidiary broke the country’s record for the largest IPO in September 2009, eclipsing Cielo, the Brazilian
affiliate of the Visa credit card network.
Other large IPOs have included oil company OGX and shipbuilder OSX. OSX aims to supply ships and other equipment to the oil industry at a time when Brazil’s government is keen to encourage a domestic shipbuilder to carry its iron ore exports. We can expect Vale, the country’s mining giant, to place orders for ore carriers at Brazilian ship-yards.
The impact of the oil find is already beginning to reverberate around the broader economy.
Sound macroeconomic policies, government incentive schemes and the rapid growth of the middle class have made Brazil an attractive option for investors. The foundations of that growth have now
become entrenched. The growing consensus for political stability and responsible fiscal and monetary policy should mean less crises of the type that happened in the past.
We can expect to see further strong growth as the economy benefits from the new wealth which accrues from commodities riches, while the supply of young people underpins the labour market.
Significant productivity improvements will become available as the economy generally moves towards higher value-added sectors. Brazil’s recent finds of new, possibly massive, offshore oil deposits have the potential to add another dynamic to an already diversified economy and put Brazil on an even more rapid economic growth path.
This is a guest post from Tom Stevenson, Investment Director at Fidelity International. It is the second in a series of articles in a BRIC by BRIC mini-series, produced exclusively for BrilliantWithMoney and Informed Choice.
Past performance is not a guide to what might happen in the future. Please note the value of investments can go down as well as up so you may get less than you invested. Investments in small and emerging markets can be more volatile than other developed markets and changes in currency exchange rates may affect the value of an investment. The ideas and conclusions in Tom Stevenson’s article are his own and do not necessarily reflect the views of Fidelity’s portfolio managers. They are for general interest only and should not be taken as investment advice or as an invitation to purchase or sell any specific security.
1. Goldman Sachs, Latin America Economic Analyst, 19 February 2010.
2. GDP in purchasing power parity (PPP), according to the International Monetary Fund and the World Bank.
3. CIA: The World Factbook