Download Brazil - JP Morgan Asset Management

INVESTMENT
INVESTMENT
INSIGHTS
INSIGHTS
PORT FOLIO DISCUSSION
Brazil: Perspectives and targeted
opportunities in public and private markets
June 2013
Connecting you with
our global network of
investment experts
IN BRIEF
The recent pause in Brazil’s 20-year growth story has caused investors to re-assess
and refocus on this market. This attention is warranted, given that Brazil is one of
the world’s largest economies and most populous of countries and plays a major role
in Latin American and emerging world markets.
In focusing on Brazil, investors are likely to find that the fundamental drivers of its
long-term growth, rooted in fiscal discipline and economic reform, remain largely in
place. An understanding of Brazil’s macro dynamics and the rich idiosyncrasies of its
economy, industries and markets can help investors identify pockets of investment
opportunity—a critical objective for investors, especially in a more moderate global
growth environment.
In addition to providing an economic backdrop, this paper draws on the global network of investors and research teams at J.P. Morgan Asset Management, as well as
the local presence and expertise of Gávea Investimentos in Brazil, to analyze various
asset classes and highlight key investment themes and opportunities in the Brazilian
markets. For example:
• Public equities—Domestically-oriented growth businesses look attractive.
• Fixed income—Brazilian bond yields are among the highest globally.
• Private equity—Investment opportunities exist in developing infrastructure,
consolidating fragmented industries and providing capital for strong, local
companies in the education, retail and healthcare sectors.
• Real estate—New residential and commercial green field projects offer
investment potential.
While investors will need to carefully balance risks and rewards, teams across Gávea
Investimentos and J.P. Morgan Asset Management see a range of alpha-generating
opportunities to participate in Brazil’s continuing growth.
Brazil’s role—in Latin America, on the world stage and in investor portfolios—cannot
be ignored. Brazil is the fifth most populous country and seventh largest economy in
the world (as measured by GDP) and comprises over 40% of Latin America’s GDP
(Exhibit 1A, next page). Its stock exchange has an aggregate market capitalization
equal to all other Latin American exchanges combined and its equity market represents 13% of the MSCI Emerging Markets Index (Exhibit 1B, next page). Whether
investors are directly, indirectly or regionally allocated to Brazil, it is important that
they remain well-informed about a market with its growing influence on the global
economy and its importance for those investing in Latin America, emerging markets
and global portfolios.
FOR PROFESSIONAL, INSTITUTIONAL OR WHOLESALE INVESTORS USE ONLY/NOT FOR PUBLIC DISTRIBUTION
INVESTMENT
INSIGHTS
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
Brazil plays a major role in the Latin American economy and for emerging market investors
EXHIBIT 1A: 2012 LATIN AMERICAN GDP BY COUNTRY
Guatemala
Dominican Republic
Ecuador
Peru
Chile
EXHIBIT 1B: MSCI EMERGING MARKET EQUITY INDEX
Others
Colombia
Brazil
13%
Others
Brazil
42%
Venezuela
South Korea
Argentina
China
South Africa
Mexico
Taiwan
Source: International Monetary Fund (IMF); data as of April 13, 2013.
Source: MSCI; data as of April 30, 2013.
The story of Brazil’s growth over the past two decades is well
known. Starting in 1994 with the launch of the Plano Real,
Brazil committed itself to a more disciplined fiscal policy. By
controlling inflation through steady increases in interest rates,
fixing the real (BRL), and privatizing inefficient state-owned
companies, the Central Bank of Brazil and the government
enacted a series of improvements that sparked a remarkable
period of economic expansion. This 20-year period of solid
growth and widespread wealth creation was accompanied by
continued improvements in fiscal discipline and unrelenting
inflation controls. However, Brazil’s long-term positive growth
trend and improving macroeconomic fundamentals paused in
2011 and 2012, when real Brazilian GDP grew by only 2.7% and
0.9%, respectively. Accustomed to the country’s positive
growth dynamics, many investors were surprised by Brazil’s
comparative underperformance versus many of its emerging
markets peers.1
Current macroeconomic environment:
Growth at a more sustainable pace
While recent underperformance should give investors pause,
sentiment today may, in fact, be too negative. Many structural
improvements are permanent—more people are employed
with higher wages, the political and social systems are stable
and well-functioning, the press is free and engaged in a highquality debate, and macroeconomic stability has helped to
improve the lives of all Brazilians. Investors must assess if the
government’s influence on economic and fiscal policy will be
as positive a factor going forward as it has been in the past.
When examining Brazil, it is also imperative that investors
determine how to identify and access alpha, particularly in a
moderate global growth environment.
1
Real GDP growth by Brazil’s emerging market peers: Mexico: 3.9%; India:
5.0%; China: 7.8%; Russia: 3.4%; and South Korea: 2.0%. J.P. Morgan;
data are estimates for 2012, as of March 31, 2013.
2 | Brazil: Perspectives and targeted opportunities in public and private markets
Brazil’s economy is driven by a combination of positive longterm growth trends with constraining factors that have a
differential impact across market sectors. As a result, investors
must carefully examine the entire picture of Brazil—from a topdown as well as a detailed bottom-up perspective. As witnessed
in 2012, the potential exists for divergence between broad
economic results and the performance of specific sectors and
companies. This section highlights a variety of macroeconomic
factors that, while not exhaustive, identify several of the key
trends—both positive and negative—impacting Brazil today.
Infrastructure: The road unpaved
A historical bottleneck of growth, Brazil’s lack of infrastructure
investment is well documented. Unlike many emerging market
peers (e.g., China and India) that invest some 35% to 50% of
GDP annually in infrastructure, Brazil has invested only about
20%, which is closer to that of more developed markets
(Germany: 18%; Japan: 20%; and the United States: 15%).2
Despite promises of investment in advance of the 2014 World
Cup and 2016 Summer Olympics, questions remain regarding
the government’s willingness to make the substantial investments required to facilitate future growth. In the interim,
overburdened roads and airports, outdated telecommunications networks and insufficient electrical production and
transmission systems remain considerations for investors.
2
International Monetary Fund (IMF)—World Economic Database, J.P. Morgan;
data as of April 2013.
Infrastructure development has been uneven; roads and ports are the areas of greatest need
EXHIBIT 2: SELECTED INFRASTRUCTURE METRICS FOR BRAZIL
2007
2008
2009
2010
2011
CAGR
12.2
12.2
12.9
13.5
—
—
649,738
1,478
45,287
647,753
1,807
58,763
752,225
1,782
67,946
818,093
1,316
74,310
953,860
1,473
87,705
10.1%
-0.1%
18.0%
6,465
2.6
7,256
2.5
6,590
2.6
8,139
2.9
8,650
2.7
7.6%
—
20.8
30.9
4.0
63.7
21.5
33.8
5.1
78.6
21.5
39.2
5.8
87.7
21.6
40.7
6.8
101.0
21.9
45.0
8.6
124.3
1.3%
9.9%
21.0%
18.2%
GENERAL STATISTICS
Percentage of roads paved (%)
AIR TRANSPORTATION
Registered carrier departures (worldwide)
Freight transported by air (million ton-km)
Passengers carried (000s of people)
PORT INFRASTRUCTURE
Container traffic (20 foot equivalent units, 000s)
Quality of port infrastructure, WEF* (1 = underdeveloped to 7 = well developed)
TELECOMMUNICATIONS (PER 100 PEOPLE)
Telephone lines
Internet users
Fixed broadband Internet subscribers
Mobile cellular subscriptions
Source: World Bank; data as of April 16, 2013.
*World Economic Forum (WEF), Global Competitiveness Report; annual observations are averages for the last two years.
Exhibit 2 highlights a selection of infrastructure metrics
recorded periodically by the World Bank. Since 2007, the number of people traveling by plane, as well as the number of
broadband internet and mobile cell phone subscribers, has
nearly doubled. By contrast, air freight transportation, the
percentage of roads paved and the quality of port infrastructure have all remained roughly unchanged.
Education: Raising the grade
Among the most positive trends in Brazil is the improvement
in its educational system. Today, the average Brazilian remains
in school for seven years. This represents a dramatic increase
over the last two decades, though educational attainment still
Education levels are improving, nearing the regional average
EXHIBIT 3: YEARS OF SCHOOLING—TOTAL POPULATION AVERAGE
Latin
America*
9
Brazil
8
7
Years
6
5
4
lags the roughly eight-year average for Latin America as a
whole (Exhibit 3).
Notably, among young Brazilians (those aged 7 to 14 years),
concentrated efforts by the government (including the Bolsa
Escola, which pays lower class families a stipend to ensure
their children attend school) have decreased the number of
younger children in the workforce. In fact, from 2004 to 2007,
the child labor rate declined by nearly 40%—from 7% to 4% of
the young Brazilian population.3 With more children staying in
school longer, Brazil’s average education level should continue
to rise, supporting the sustained growth of its middle class.
Government and the economy:
Positive interference?
The involvement of Brazil’s government and central bank in the
economy and markets has recently raised concerns with
investors. To combat low economic growth and inflationary
pressures, the government endeavored to fix some of the
market’s structural challenges by using an array of activist and
protectionist measures, including:
• revising utility company contracts
3
• spurring loan growth through government-owned banks
2
1
• exerting pressure to lower commodity prices, and
0
’50
’55
’60
’65
’70
’75
’80
’85
’90
’95
’00 ’05
’10
’10
Source: Barro-Lee Educational Attainment Index; data as of March 31, 2013.
*Data for Latin America is a simple average of the number of years of total
schooling for those aged 25 years and older. The following countries are
included: Argentina, Bolivia, Brazil, Chile, Columbia, Ecuador, Mexico,
Nicaragua, Panama, Paraguay, Peru, Uruguay and Venezuela.
• increasing subsidies on select sectors to support production
and consumption.
3
World Bank
J.P. Morgan Asset Management | 3
INVESTMENT
INSIGHTS
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
Brazil has been exhibiting a relatively high degree
of protectionism
Lower interest rates are encouraging consumption
and development
EXHIBIT 4: PROTECTIONIST TRADE MEASURES IMPLEMENTED IN 2012*
EXHIBIT 5: HISTORICAL REAL INTEREST RATES IN BRAZIL
35
200 193
3
Source: World Trade Alert, J.P. Morgan; data as of March 31, 2013.
15
5
2011
2012
2010
2009
2007
2008
2005
2006
2003
2004
2001
2002
2000
1999
1997
1998
1995
0
1996
5
20
10
Chile
Peru
5
Colombia
Thailand
Phillippines
Malaysia
Korea
Mexico
38 37 33
26 21
14 10 7
South Africa
Poland
Brazil
India
China
Russia
0
56
U.S.
74 71
50
Turkey
97 97
100
Percent
25
Indonesia
150
Historical real interest rates
3-year moving average
30
148
Argentina
Number of measures
250
Source: Bloomberg and Gávea Research Team; data as of December 31, 2012.
*Measures that may involve or almost certainly do involve discrimination
against foreign commercial interests.
In 2012 alone, Brazil implemented an estimated 74 protectionist
trade measures, lagging only Argentina among its Latin
American neighbors. At the same time, Brazil implemented twice
the number of impediments to trade enacted by Mexico, Peru,
Colombia and Chile combined (Exhibit 4). It remains to be seen
whether this activist and protectionist trend will continue, but
investors have paused to consider the impact of these policies.
mid-sized companies. As shown in Exhibit 5, real interest rates
have also declined to multi-year lows, driving credit availability,
supporting consumption and adding to economic resiliency.
It is also important to examine the government’s role in
moderating inflation—one of the most actively monitored
economic figures in the country. After creeping higher in 2012,
inflation surpassed the official threshold of 6.5% during the
first quarter of 2013. The Central Bank of Brazil argued that
cuts in select sales taxes and efforts to moderate currency and
food price pressures would gradually bring inflation back to an
acceptable range. It appeared that this strategy alone was not
enough to address rising prices. To further combat market
pressures, the central bank has twice raised interest rates,
first by 25 basis points (bps) in April 2013 and again by 50bps
in late May, bringing the rate to its current 8.0% level.
In addition to a decrease in real interest rates, another
positive trend in the Brazilian credit market’s evolution is the
increasing maturity and depth of the mortgage market. While
total mortgage loans as a percentage of GDP remains
comparably low at roughly 6% (vs. 9% in Mexico, 15% in China
and near 60% in the U.S.),5 Brazilians today have access to a
greater pool of liquidity under more favorable terms. Until
recently, hopeful Brazilian homebuyers could only secure
mortgages through state-owned banks or face shorter tenures
and outsized credit spreads from privately owned banks.
Federal lawmakers and the central bank are stepping in to
buoy the housing market and encourage participation by
lenders and borrowers alike. This bodes well for the future of
the Brazilian housing market and should have a further
positive effect on housing construction, home improvement
and general consumption.
Availability of credit: A deepening pool
Demographics: A persistent, growing force
The Brazilian fixed income market is undergoing a fundamental
structural and behavioral shift. Economic stability, better
growth prospects and comparably attractive interest rates
have increased market depth and participation. Nominal interest rates have fallen materially over the last five years to
roughly 7%.4 Previously high interest rates had limited the
availability of credit for individuals, families and small to
Approximately 200 million people6 make Brazil the most populous country in Latin America and the fifth most populous
country in the world. Two main elements of Brazil’s macroeconomic future are based on this growing population—its positive demographics and its growing middle class. Similar to
4
BDS, J.P. Morgan; data as of March 31, 2013.
4 | Brazil: Perspectives and targeted opportunities in public and private markets
5
6
Brazil includes only non-earmarked credit. Federal Reserve System,
Barclays, Bank of Mexico, Central Bank of Brazil, J.P. Morgan; data as of
March 31, 2013.
CIA World Factbook; data as of May 31, 2013.
China in an earlier stage of its development, Brazil is in the
first phase of the aging cycle of its population. In this period,
higher concentrations of the population are entering the workforce and/or moving into their most productive working years.
As shown in Exhibit 6A, in 2000, Brazil’s population was highly
concentrated among younger age groups. In 2012, the median
age among Brazilians was 29.6 years.7 Looking ahead to 2020
(Exhibit 6B), this growing, more productive workforce is likely
to drive large increases in productivity, consumption, investment and demand for housing.
Demographics are favorable, with a high concentration of
workers entering their most productive years
Brazil has seen a surge in per capita income
Male
EXHIBIT 7: BRAZIL—REAL GDP PER CAPITA (USD)
Female
14,000
12,000
10,000
USD
Age group
EXHIBIT 6A: POPULATION DISTRIBUTION BY AGE—BRAZIL, 2000
100+
95–99
90–94
85–89
80–84
75–79
70–74
65–69
60–64
55–59
50–54
45–49
40–44
35–39
30–34
25–29
25–24
15–19
10–14
5–9
0–4
As it grows in size, Brazil’s workforce is also becoming
wealthier (Exhibit 7) and the distribution of income is
improving. As a result of many factors—rising average wages,
lower unemployment (Exhibit 8) and government wealth
redistribution programs—increasing numbers of Brazilians are
entering the middle class for the first time. Rising consumer
wealth has spurred domestic spending as well as confidence in
investment opportunities in Brazil. While on the whole these
trends are positive for the economy and general population,
some economists caution that rising wages and increased
consumer spending have created permanent increases in the
cost of living and structurally changed the nature of inflation.
8,000
6,000
4,000
2,000
0
’96 ’97 ’98 ’99 ’00 ’01 ’02 ’03 ’04 ’05 ’06 ’07 ’08 ’09 ’10 ’11 ’12
Source: Reuters EcoWin, IBGE, Gávea Research Team; data as of
December 31, 2012.
10
8
6
4
2
0
Millions
2
4
6
8
10
Unemployment rates are at historic lows
EXHIBIT 8: BRAZIL UNEMPLOYMENT RATE, SEASONALLY ADJUSTED
100+
95–99
90–94
85–89
80–84
75–79
70–74
65–69
60–64
55–59
50–54
45–49
40–44
35–39
30–34
25–29
25–24
15–19
10–14
5–9
0–4
15
Female
13
Percent
Male
11
9
7
Jun-12
Feb-13
Oct-11
Feb-11
Jun-10
Oct-09
Feb-09
Oct-07
Jun-08
Feb-07
Oct-05
Jun-06
Feb-05
Oct-03
Jun-04
Feb-03
Jun-02
5
Oct-01
Age group
EXHIBIT 6B: POPULATION DISTRIBUTION BY AGE—BRAZIL, 2020
Source: Brazilian Statistics and Geography Institute (IBGE) and Gávea Research
Team; data as of March 31, 2013.
10
8
6
4
2
0
Millions
2
4
6
8
10
Source: U.S. Census Bureau; data as of June 30, 2012.
7
Index Mundi
J.P. Morgan Asset Management | 5
INVESTMENT
INSIGHTS
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
Brazil’s commodity prices and GDP growth are highly correlated with China’s growth
Standard deviation (Y-o-Y % change)**
EXHIBIT 9: BRAZIL GDP, CHINA GDP AND COMMODITIES*
300
Brazil
China
CORRELATIONS
Brazil
China
Commodities
1
0.61
0.79
1
0.69
1
Brazil
China
Commodities
Commodity prices*
200
100
0
100
200
300
2000-Q1
2001-Q1
2002-Q1
2004-Q1
2005-Q1
2006-Q1
2008-Q1
2009-Q1
2011-Q1
2012-Q1
Source: Brazilian Statistics and Geography Institute (IBGE), Bloomberg, J.P. Morgan; data as of March 31, 2013.
*Commodity prices: IMF World Non-Fuel Commodities Index; data as of March 31, 2013.
**Four-quarter moving average, normalized to same scale, seasonally adjusted.
Natural resources: A changing role
Brazil’s abundant natural resources have been the foundation
of the country’s recent success. Across the commodity markets, Brazil has benefited from sustained, elevated commodity
demand and pricing, prompting increased production of iron
ore, discovery of new oil reserves, and harvesting of greater
yields from its farmland. While positive for Brazil’s growing
economy, the country has become heavily reliant upon exports
of commodities and specifically, exports of those commodities
to one of its primary trading partners, China. Based on data
for the last 13 years, Brazil’s GDP is roughly 80% correlated
with changes in commodity prices and 60% with Chinese GDP
(Exhibit 9). In 2012 alone, of Brazil’s USD41 billion in exports
to China, 78% were iron ore, soy beans, and crude oil.8 As
China’s economy transitions from a period of outsized growth,
infrastructure development and a resulting high demand for
natural resources to a more consumption-based economy,
Brazil will also need to adapt to sustain its growth trajectory.
On balance, Brazil’s macroeconomic environment continues to
benefit from the lessons of the past 20 years of fiscal discipline and inflation controls as well as from its wealth of natural resources, strong demographic trends, maturing securities
markets and continuing wealth creation. Additionally, investment in infrastructure and education and, over the long term,
growth in consumption, should create public and private
investment opportunities for years to come.
Current capital market environment:
Growing, maturing and dynamic
Brazilian public equity and debt capital markets are expanding
and maturing—an essential component of any country’s
continued growth and development. Brazil’s equity markets
are among the largest in the emerging markets;9 its fixed
income market is embracing new investment products, and
liquidity is deepening.
Public equity markets: An incomplete view
of performance
Despite Brazil’s wealth, size and 20 years of progress, relatively
few companies are publicly traded as compared with other
emerging markets. The country’s main index, the Bovespa, is
highly concentrated and provides a poor representation of the
country’s overall performance. As shown in Exhibit 10 (next
page), nine large companies (Petrobras, Vale, Itau, Banco
Bradesco, Banco do Brasil, BM&F Bovespa, PDG Realty, Gerdau,
Cielo) comprise approximately 50% of the index, largely representing two sectors—commodities and financial services.
Despite this sector and issuer concentration, investors are
increasingly comfortable with trading in the Brazilian equity
market. In fact, today roughly USD3.8 billion trades daily on
9
8
MCDE (Ministry of Development, Industry and External Commerce),
J.P. Morgan.
6 | Brazil: Perspectives and targeted opportunities in public and private markets
World Federation of Exchanges, May 2013. As measured by market
capitalization. Brazil’s market cap is nearly equal to all of the other
Latin American equity indices combined.
Brazil’s Bovespa index is highly concentrated in a few
large companies and sectors
EXHIBIT 10: COMPOSITION OF THE BM&F BOVESPA, BY MARKET VALUE
% of BM&F Bovespa market value
AMBEV
10.1
Petrobras
9.1
Vale 7.1
Others
50.0
Itau Unibanco 6.9
Bradesco
Banco do Brasil
Itausa
Telefonica
Santander
6.6
3.3
2.3
2.3
2.2
Source: Capital IQ; data as of April 12, 2013. Results may not sum to 100% due
to rounding.
Brazilian exchanges, nearly three times the amount traded on
the Mexican exchange (Exhibit 11). Of this volume, over 70% is
from foreign and institutional investors.10
As more investors enter the markets and demand for exposure
to Brazilian equity increases, a growing number of companies
are preparing to go public. However, Brazil still has relatively
few publicly listed companies. For example, despite having a
GDP 1.3x larger than India’s and 2.0x that of Korea,11 Brazil has
only about 20% as many publicly listed companies as either of
these two countries.12
Fixed income markets: Expanding beyond
bank loans
As previously noted, Brazil’s fixed income markets are
undergoing a transformation. Over the last four years, the
Brazilian fixed income markets have grown by 56% and local
corporate debt has nearly doubled (Exhibit 12). While fixed
income issuance, amounts outstanding and trading volumes
remain dominated by government debt, it is a positive sign for
future growth that an increasing number of companies are
accessing the non-bank loan markets to finance expansion
and investment, with corporate new issuance reaching over
BRL86 billion in 2012 (Exhibit 13). In addition, while trading
volumes are volatile, investors are beginning to trade Brazilian
corporate debentures in a more meaningful way.
Brazil’s ongoing capital markets expansion and improving
liquidity should help facilitate future infrastructure
development, consumer spending and financing to support
industry consolidation.
Since 2008, fixed income markets have grown by over 50%,
with local corporate debt almost doubling
EXHIBIT 12: BRAZILIAN DEBT OUTSTANDING (BRL, BILLIONS)
3,642
4,000
3,500
+56%
Brazil’s equity trading volume far exceeds that of its
Latin American neighbors
EXHIBIT 11: LATIN AMERICA CURRENT DAILY EQUITY TRADING VOLUME*
BRL (billions)
3,000
2,000
0
1.5
Government Debt
Dec 2008
Feb 2013
More companies are accessing the non-bank loan market
BM&F Bovespa, J.P. Morgan; data as of March 31, 2013.
International Monetary Fund (IMF); data as of April 16, 2013.
World Federation of Exchanges; data as of January 2013.
2013
2011
2012
2010
2009
2007
2008
2005
2006
2003
2004
2001
2002
1999
Average: BRL30 bn
1995
*Figures represent 90-day simple moving averages.
100
90
80
70
60
50
40
30
20
10
0
2000
Colombia
1997
Chile
EXHIBIT 13: DEBENTURE ISSUANCE
1998
Mexico
0.1
1996
Brazil
0.2
Source: Bloomberg, J.P. Morgan; data as of May 2013.
12
1,991
1.3
BRL (billions, accumulated)
USD (billions)
2.5
2.0
0.5
11
Bank Debt
Source: Central Bank of Brazil, National Treasury of Brazil, Cetip (Organized
Over-The-Counter Market for Securities and Derivatives), ANBIMA (Brazilian
Association of Financial and Capital Market Entities), J.P. Morgan; data as of
March 31, 2013.
3.0
1.0
10
907
Corporate Debt
1,265
500
3.8
Negotiable Instruments
736
1,500
3.5
0.0
267
62
1,000
4.5
4.0
2,330
2,500
223
521
Source: Cetip (Organized Over-the-Counter Market for Securities and
Derivatives), ANBIMA (Brazilian Association of Financial and Capital Markets
Entities), J.P. Morgan; data as of March 31, 2013.
J.P. Morgan Asset Management | 7
INVESTMENT
INSIGHTS
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
Perspectives from market experts at Gávea
and J.P. Morgan Asset Management
As Brazil continues its transition from a high-growth to a stable, sustainable economy, identifying and accessing “pockets
of prosperity” becomes increasingly important for investors,
particularly in a moderate global growth environment. For
insight on potential opportunities, the following perspectives
draw on the local expertise of the Gávea Investimentos team
in Brazil and the global network of J.P. Morgan asset class
experts. Blending individual expertise, independent, in-depth
research, local knowledge and strong relationships, and a
global exchange of best ideas, investors share their views
(sometimes conflicting) across markets and sectors.
Equities: Active management matters
A view by Thomas Souza (Gávea Equity Fund)
It is important to view Brazil’s public equity markets from both
a top-down, macro and a bottom-up, fundamental perspective.
By all accounts, 2012 appears to have been a very difficult
year for investing in Brazil, given weak GDP growth, significant
government intervention, higher inflation and a decline of
32% in earnings for the companies on the Bovespa.13 In reality,
a closer look across the various markets in Brazil reveals a
more encouraging perspective:14
• Fixed income had a good year with large inflows and gains
as high as 48% in long-end TIPS.
• Private equity markets experienced strong activity—closing
nearly 90 deals (roughly 30 of them are considered large).
• Foreign direct investment remained strong at
USD65 billion.
• Real estate continued to see increased interest, with prices
rising and real estate funds successfully raising capital.
• On the whole, Brazilian equities were resilient, especially
considering the challenging macro and political environment.
Focusing in on Brazil’s public equity markets, broad, “headline” performance suggests a disappointing 2012. Last year,
Brazilian indices underperformed relative to emerging market
peers, with the Bovespa index losing 2% and the MSCI Brazil
index growing by a meager 0.5% (including dividends).15 Upon
closer examination, however, Brazil’s underperformance can
13
14
15
Bloomberg, Gávea Research
Bloomberg, Gávea Research
Bloomberg
8 | Brazil: Perspectives and targeted opportunities in public and private markets
be attributed primarily to a nearly 10% depreciation in the
real versus the U.S. dollar. Digging even deeper, both the
Bovespa and the MSCI Brazil indices are highly concentrated
among a handful of Brazil’s largest companies—whose stock
performance does not relate the full story of Brazil’s growth.
Expanding to a larger universe of public Brazilian equities
shows a significantly wider range of performance. According
to research teams at Goldman Sachs, an equally weighted
index of the 129 largest publicly traded stocks in Brazil rose
roughly 15% in U.S. dollar terms. Additionally, the research
team at Gávea has concluded that over 100 Brazilian stocks
rose more than 15% in 2012 and nearly 140 publicly traded
stocks beat the overall performance of the Bovespa index. In
other words, 2012, like 2010 and 2011, was another year when
stock picking and active management clearly paid off.
Looking ahead, the Gávea research team expects 2013 to be a
better year for Brazil than 2012, but far from great. From a
macro perspective, the team anticipates: stronger growth (with
GDP growing at roughly 2.5% to 3.0%), continued inflationary
pressures (with inflation at 6%) and rising interest rates (to
stem inflationary pressures). On a positive note, Gávea’s
analysts expect that government intervention will be more
balanced this year and that much of the intervention that
occurred in 2012 will subside. For some sectors, it is likely that
positive government intervention will continue, for example, in
industrials, infrastructure, consumer staples and materials (e.g.,
pulp and paper). In addition, excluding intensifying competition
by state-owned banks, 2013 should see less overall government
intervention in the financial sector. Finally, as in prior years, the
high costs and scarcity of skilled labor as well as the poor state
of the country’s infrastructure will continue to constrain growth,
yet provide opportunities for investment in education,
transportation and communication systems.
Overall, Brazil continues to offer outstanding investment opportunities, though in more selected pockets of prosperity—areas
experiencing China-like growth rates and positive government
intervention. Being a successful Brazilian equity investor in 2013
will require working with a strong investment partner who has
the local knowledge and insight needed to identify attractive
investment opportunities, while balancing risk.
Equities: A paradigm shift favors industrials,
financials and consumer stocks
A view by Jorge Oliveira, Sebastian Luparia and
Richard Titherington (Emerging Markets Equity Team,
J.P. Morgan Asset Management)
In the view of the J.P. Morgan Emerging Markets Equity Team,
Brazil’s current economic environment and outlook are very
different today than they were during the era of President
Lula.16 Brazil and the broader Latin American region are not
likely to see a repeat of the China-led commodities boom that
previously provided a favorable environment for growth,
reserve accumulation, debt reduction and disinflation. In the
short term, despite robust consumption, industrial production
and investment are weak, while inflation is creeping higher.
However, Brazil, like a number of the larger emerging markets
where there is uncertainty around the pace of economic and
earnings recoveries, has seen valuations fall to attractive levels. Over the last year, the MSCI Emerging Markets Index is up
nearly 4%, while the MSCI Brazil is down 5%.17
If the last decade was about commodities, the opportunity of
the next decade for equity investors will lie in consumption
and infrastructure investment. This larger paradigm shift within
the Brazilian economy reinforces the team’s structural preference among Brazilian equities for domestically-orientated
growth businesses, particularly industrials, financials and consumer stocks. Additionally, the team believes commodity businesses will continue to face the dual pressures of increased
costs and ongoing capital expenditures.
The likely catalyst for this attractively valued market will be
some combination of the following: less government intervention in the private sector, supply side reforms to free up the
economy, a peak in inflation and a re-acceleration in growth.
The team remains confident that Brazil will see progress in
most areas over the course of the next year.
Fixed Income: Premiums are attractive and likely
to remain high
A view by Julio Callegari and Pierre-Yves Bareau
(Emerging Markets Debt, J.P. Morgan Asset Management)
From the perspective of J.P. Morgan Asset Management’s
emerging markets fixed income desk, Brazil remains a relatively
attractive market, despite concerns about the macroeconomic
picture. Deterioration in fundamentals, reflected in persistent
growth disappointment over the last two years, is driving the
country’s credit underperformance versus its peers. Both headline and core inflation remain stubborn and account for large
and increasing premiums for holding duration in the local market. In April, the Central Bank of Brazil launched a tightening
cycle (at odds with the rest of the emerging markets) in an
effort to anchor inflation expectations. At the same time, however, the administration has announced further tax exemptions
and continues to use state-backed banks to expand credit in an
effort to sustain a nascent economic recovery. In the team’s
opinion, a combination of a loose fiscal stance and tightening
monetary policy does not seem to be the most appropriate
policy mix at this point (particularly in a global, low-interest
rate environment). As a result, the premium required by private
investors is expected to remain relatively high.
Despite concerns with the larger picture and the IOF tax
charged on foreign investors,18 10-year local yields remain at
approximately 10%. With inflation expectations at 5.5%, Brazil’s
(nominal and real) interest rates are still among the highest in
the world, with decent liquidity. Considering that the zero interest rate policy of the developed world is likely to be in place for
some time, local Brazilian fixed income investments remain an
attractive alternative to high yield bonds. The Central Bank of
Brazil will likely continue to fight against inflation and seek minimal appreciation of the real. Similarly, on the credit front (hard
currency), it is the team’s view that most of the deterioration in
credit fundamentals has been priced in and ratings downgrades
remain unlikely over the medium term.
Overall, the premium in Brazilian fixed income assets is relatively attractive and should prevent much underperformance
in the medium term. At the same time, the team’s assessment
is that the deterioration in fundamentals is strong enough to
avoid the return of excitement that the fixed income market
witnessed in previous years.
Private equity: Direct access to Brazil’s underlying
growth drivers
A view by Chris Meyn and Luiz Fraga (Gávea Private Equity)
Investing in Brazil through non-publicly traded equities is one
of the most attractive methods of accessing the country’s vast
growth potential—providing investors with exposure to sectors
18
16
17
Luiz Inácio Lula da Silva served as Brazil’s 35th president, from January 1,
2003 to January 1, 2011.
Bloomberg; data as of December 31, 2012.
The IOF is the Brazilian Tax on Financial Operations, a federal tax levied on
foreign investments in credit, foreign exchange, insurance, and securities
transactions. The rate varies by type of transaction and maturity and can
be changed by the government at their discretion.
J.P. Morgan Asset Management | 9
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
that are limited in availability through other traditional asset
classes. Brazil possesses many attributes necessary for attractive growth in private investment: a stable economy, strong
consumer demand and limited capital markets. In the view of
Gávea, the outlook for private equity remains very strong, as
the Brazilian equity index and broader market remain concentrated in a few large names and sectors. At the same time, private equity penetration is much lower in Brazil than in other
markets. Whether to fund expansion, help increase efficiency
and productivity, or strengthen corporate governance, local
companies with strong growth potential are seeking partners
to help lead them in their next phase of development.
BRL (billions)
INVESTMENT
INSIGHTS
Over the past two decades, Brazil has implemented several
substantial market reforms that have cultivated an attractive
setting for private equity investing. Taxes on foreign investment have been lowered or eliminated and the government
has incentivized investment in companies across strategic sectors such as infrastructure and commodities. Corporate governance has improved greatly, comparing favorably to most
developed markets, and the Novo Mercado19 listing requirements have reinforced the importance of minority rights.
investments are needed to improve Brazil’s weak road and rail
systems. With less than 14% of the country’s roads paved,
traffic congestion is worsening and the neglected railway
system is forcing additional traffic onto the roadways. To
address these issues, in August 2012, the government
announced a BRL133 billion21 investment initiative to improve
Brazilian roads and railways. Similarly, additional investment
focus is being placed on the port, airport and energy sectors.
20
10 | Brazil: Perspectives and targeted opportunities in public and private markets
0
1994 1996 1998 2000 2002 2004 2006 2008 2009 2010 2011 2012
Source: Brazil Council of Shopping Centers (ABRASCE); data as of December
31, 2012.
Finally, consolidation also presents opportunities for private
equity capital. Historically, the majority of Brazilian companies
have been small/mid-sized family businesses, developed over
long periods of time. This has resulted in a high degree of
fragmentation within growing sectors like education, healthcare
and retail. An opportunity exists for companies with resources
and expertise to take advantage of the lack of concentration and
benefit from synergies and scale generated through geographic
and vertical mergers. Many of the leading companies in a given
sector possess a market share of less than 5%.
The drugstore market is one sector that is already consolidating.
Recent government reforms on tax collection directly impacted
Brazil’s infrastructure represents a hurdle and an opportunity
EXHIBIT 15: INFRASTRUCTURE INVESTMENT
60
China
50
40
30
20
Brazil
10
Source: International Monetary Fund; data as of April 2013.
21
O Globo newspaper; represents approximately USD65 billion.
2015
2011
2013
2007
2009
2005
2001
2003
1997
1999
1995
0
1991
Novo Mercado (translates to “new market”) is a new portion of the Bovespa
stock market that admits only companies who issue shares where voting
and ownership are proportionate. In the past, Brazilian public companies
could be controlled through multiple share classes where small stakes
controlled entire companies.
PriceWaterhouseCoopers, “Crunch Time for Brazilian Infrastructure,”
Spring 2013.
20
1993
19
60
40
1987
Infrastructure, historically a significant bottleneck for growth
and an area of underinvestment for Brazil, relative to other
emerging economies, presents another private equity
opportunity (Exhibit 15). Recently, the Brazilian government
estimated that nearly USD900 billion20 will need to be spent
on infrastructure improvements. As an example, significant
80
1989
Brazil’s expanding middle class is consuming more than ever
before, driving demand for consumer products, education, and
healthcare, often presenting growth rates greater than that of
the overall economy. In 2012, a year when Brazilian GDP grew
at less than 1%, Brazilian shopping centers (responsible for
roughly 19% of all retail sales) experienced revenue growth of
11% (Exhibit 14) and overall retail sales grew 8%.
100
1985
• consolidation of fragmented industries
120
1981
• infrastructure development
140
1983
• an expanding consumer middle class
EXHIBIT 14: BRAZILIAN SHOPPING CENTER REVENUE GROWTH
% of GDP
Looking forward to the remainder of 2013 and beyond, there
are three main drivers presenting opportunities for private
equity in Brazil:
An expanding middle class is driving consumer demand
Strong local family businesses are consolidating
EXHIBIT 16: BRAZILIAN DRUGSTORE MARKET SHARE (% OF REVENUE)
Top 10
Supermarkets
Percent
100
90
80
70
60
50
40
30
20
10
0
2004
Other chains
Independents
2006
2008
2009
2010
2011
Source: IMS Health and Abrafarma; data as of December 31, 2012.
smaller retail chains and initiated a consolidation process
(Exhibit 16). As an example, two of the key players, Raia and
Drogasil, had market shares of 3.8% and 4.5%, respectively. In
partnership with investors, Raia and Drogasil saw an
opportunity to merge and created the largest pharmaceutical
retail company in Brazil, with a 9.3% market share.22
Overall, the landscape for private equity in Brazil is strong.
Investment opportunities exist in consumer-driven markets
(retail, education, and healthcare), infrastructure (as the
country modernizes) and through consolidation of highly
fragmented industries. Finally, the ability to exit private equity
stakes has increased through the maturation of public equity
markets and the expansion of strategic acquisitions by local
Brazilian and large, global conglomerates. It is an ideal time to
capitalize on these structural advantages within the private
equity market in Brazil.
Real estate: Strong potential for residential and
commercial green field projects
A view by Rossano Nonino (Gávea Real Estate)
Similar to private equity, the Brazilian real estate market benefits from strong macroeconomic conditions and market-specific
factors that capitalize on Brazil’s growing middle class and
need for infrastructure. In the view of the Gávea real estate
team, future residential and commercial green field projects
offer the best potential to benefit from under-penetration and
solid exit prospects, enabling potentially attractive returns.
From a macroeconomic perspective, the Brazilian real estate
market is benefiting from a decade of low inflation levels,
decreasing unemployment, steady declines in interest rates, and
a favorable demographic profile. Additionally, as discussed in an
earlier section, the Brazilian mortgage market is undergoing a
fundamental and structural shift. Today, more Brazilians are
22
able to access the mortgage market and are increasingly looking toward home ownership as a source of wealth protection
and as a way to potentially enhance their net worth. Until a few
years ago, mortgage tenures were limited to 10 to 15 years, but
today, mortgages can be originated for terms up to 35 years.
While the market is growing and attracting interest from investors, it remains comparatively underpenetrated and in need of
investment capital. A comparison of various real estate “per
capita” and “share of GDP” measures for Brazil and Mexico
highlights this shortfall (Exhibit 17). Despite having a GDP nearly
double that of Mexico’s, Brazil’s real estate market is, by these
measures, only about 40% to 85% as developed as Mexico’s.
In addition, local developers are experiencing a capital shortfall.
After a flurry of initial public offerings in 2009 and 2010, many
developers embarked on ambitious building plans that left their
firms saddled with unprecedented levels of debt. Constrained by
debt servicing and return expectations from public investors,
many developers have insufficient capital to undertake new
projects. This capital deficit creates an opportunity for private
capital to invest directly into real estate projects.
The growth of the Brazilian equity and fixed income markets
have encouraged the development of a variety of publicly
traded real estate vehicles. While widely available in more
developed markets like the United States and Europe, Real
Estate Investment Trusts (REITs) and mortgage backed securities
(MBS) are relatively new entrants to the Brazilian market. These
vehicles further increase the depth of the real estate market,
availability of exit prospects and general market liquidity.
Overall, the underlying macroeconomic and real estate marketspecific conditions bode well for the development of a vibrant
and growing real estate market, a deepening mortgage market
and the potential for solid, long-term investment.
Despite its much larger economy, Brazil’s real estate market is
far less developed than Mexico’s
EXHIBIT 17: MEXICO AND BRAZIL REAL ESTATE MARKET COMPARISON
Brazil Mexico Brazil/Mexico
Office (Class A Office GLA*/inhabitants)
Malls (Malls GLA*/1,000 inhabitants)
Distribution centers (stock per capita)
Mortgage lending (% of GDP)
0.11
0.18
-39%
45
105
-57%
0.06
0.40
-85%
5
10
-50%
Source: CBRE—Latin America Office Market Review, 2012; Colliers North
America Highlights, 3Q2012; Colliers “How to Choose Your Logistical/Industrial
Facility in Brazil 2012;” and “Global Industrial Highlights 2Q2012”; European
Mortgage Foundation (EMF); International Council of Shopping Centers
(ICSC) 2010.
*Gross Leasable Area (GLA)
IMS Health; data as of December 31, 2012.
J.P. Morgan Asset Management | 11
INVESTMENT
INSIGHTS
PORTFOLIO
DISCUSSION:
Title
Copy Here
Brazil:
Perspectives
and
targeted
opportunities
Conclusion: Insight leads to opportunity
Based on the country’s overall macroeconomic and capital
markets environments, together with insights from Gávea and
J.P. Morgan investment teams, Brazil can offer a range of
investment opportunities to capture growth and idiosyncratic
alpha—even in the current global environment of low interest
rates and modest economic growth.
For more information on the strategies discussed here, or to
speak with any of our asset class experts, please contact your
J.P. Morgan representative.
CONTACTS
Robert Klein
Head of Alternative Investments Strategies
J.P. Morgan Asset Management
[email protected]
Sachin Singh
Senior Alternative Investments Specialist
J.P. Morgan Asset Management
[email protected]
Max Schwendner
Alternative Investments Specialist
J.P. Morgan Asset Management
[email protected]
Thomas Souza
CIO of Public Equities—Gávea Equity Fund
Gávea Investimentos
[email protected]
Jorge Oliveira
Portfolio Manager, Brazil Equities
J.P. Morgan Asset Management
[email protected]
Sebastian Luparia
Portfolio Manager, Brazil Equities
J.P. Morgan Asset Management
[email protected]
Richard Titherington
Chief Investment Officer, Head of the Emerging Markets Equity Team
J.P. Morgan Asset Management
[email protected]
Julio Callegari
Portfolio Manager, Emerging Markets Debt
J.P. Morgan Asset Management
[email protected]
Pierre-Yves Bareau
Chief Investment Officer, Head of the Emerging Markets Debt Team
J.P. Morgan Asset Management
[email protected]
Christopher Meyn
Co-Chief Investment Officer & Portfolio Manager—Private Equity
Gávea Investimentos
[email protected]
Luiz Fraga
Co-Founder and Private Equity Co-Chief Investment Officer
Gávea Investimentos
[email protected]
Rossano Nonino
Real Estate Co-Chief Investment Officer
Gávea Investimentos
[email protected]
NOTICE TO EUROPEAN INVESTORS: FOR PROFESSIONAL CLIENTS ONLY. NOT FOR RETAIL USE OR DISTRIBUTION.
The material contained herein is intended as a general market commentary and as such it is for informational purposes only. It is intended solely for the person to whom it is delivered by
J.P. Morgan Asset Management and may not be reproduced or distributed in any jurisdiction without the express prior written consent of J.P. Morgan Asset Management.
The opinions, estimates, forecasts, statements of financial market trends or investment techniques and strategies expressed are those held by J.P. Morgan Asset Management at the time
of going to print and are subject to change. Any research in this document has been obtained and may have been acted upon by J.P. Morgan Asset Management for its own purpose. The
results of any research referenced may not necessarily reflect the views of JPMorgan Asset Management. Reliance upon information in this material is at the sole discretion of the recipient.
It should not be considered by the recipient as a recommendation relating to the buying or selling of investments. Furthermore, this material does not contain sufficient information to
support an investment decision and the recipient should ensure that (s)he/it obtains all available relevant information before making any investment.
Past performance is not a guarantee of future results and where investment ideas, views and strategies are referenced, not all may be suitable for every investor. This material is not
intended as an offer or solicitation for the purchase or sale of any financial instrument. The information provided herein is considered to be reliable at the time of writing but may not be allinclusive and therefore there is no guarantee that it is accurate or complete. References to specific securities, asset classes and financial markets are for illustrative purposes only and are
not intended to be, and should not be interpreted as, recommendations or investment advice. Indices do not include fees or operating expenses and are not available for actual investment.
The information contained herein may employ proprietary projections of expected returns as well as estimates of their future volatility. Forecasts contained herein may be based upon
proprietary research and are developed through analysis of historical data and capital markets theory. Any forecasts contained herein are for illustrative purposes only and are not to be
relied upon as advice or interpreted as a recommendation. There is no guarantee that any forecast made will come to pass.
International investing involves a greater degree of risk and increased volatility. Changes in currency exchange rates and differences in accounting and taxation policies outside the U.S. can
raise or lower returns. Also, some overseas markets may not be as politically and economically stable as the United States and other nations. The Fund’s investments in emerging markets
could lead to more volatility in the value of the Fund. As mentioned above, the normal risks of investing in foreign countries are heightened when investing in emerging markets. In addition,
the small size of securities markets and the low trading volume may lead to a lack of liquidity, which leads to increased volatility. Also, emerging markets may not provide adequate legal
protection for private or foreign investment or private property.
J.P. Morgan Asset Management is the brand for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. This communication is issued by the following entities:
in the United Kingdom by JPMorgan Asset Management (UK) Limited, which is regulated by the Financial Conduct Authority; in other EU jurisdictions by JPMorgan Asset Management
(Europe) S.à r.l.; in Switzerland by J.P. Morgan (Suisse) SA, which is regulated by the Swiss Financial Market Supervisory Authority FINMA; in Hong Kong by JF Asset Management Limited, or
JPMorgan Funds (Asia) Limited, or JPMorgan Asset Management Real Assets (Asia) Limited, all of which are regulated by the Securities and Futures Commission; in India by JPMorgan Asset
Management India Private Limited which is regulated by the Securities & Exchange Board of India; in Singapore by JPMorgan Asset Management (Singapore) Limited, which is regulated
by the Monetary Authority of Singapore; in Japan by JPMorgan Securities Japan Limited, which is regulated by the Financial Services Agency; in Australia by JPMorgan Asset Management
(Australia) Limited, which is regulated by the Australian Securities and Investments Commission; in Brazil by Banco J.P. Morgan S.A., which is regulated by The Brazilian Securities and
Exchange Commission (CVM) and Brazilian Central Bank (Bacen); and in Canada by JPMorgan Asset Management (Canada) Inc., which is a registered Portfolio Manager and Exempt Market
Dealer in all Canadian provinces and territories except the Yukon and is also registered as an Investment Fund Manager in British Columbia and Ontario. This communication is issued in the
United States by J.P. Morgan Investment Management Inc., which is regulated by the Securities and Exchange Commission. Accordingly this document should not be circulated or presented
to persons other than to professional, institutional or wholesale investors as defined in the relevant local regulations. The value of investments and the income from them may fall as well as
rise and investors may not get back the full amount invested.
270 Park Avenue, New York, NY 10017
© 2013 JPMorgan Chase & Co. | II_Brazil Perspectives
FOR PROFESSIONAL, INSTITUTIONAL OR WHOLESALE INVESTORS USE ONLY/NOT FOR PUBLIC DISTRIBUTION