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Olympic Games: Could Rio ring in economic success for Brazil?

The performance of the Brazilian stock exchange has been one of the most surprising and puzzling in financial markets this year. The Bovespa Index is up 31%, if performance is converted to sterling, it is even more impressive. Taking into account a 38% appreciation of the Brazilian Real versus the pound since January, a UK investor who had invested in the main Brazilian equity index would have earned up to 79% in seven months.

The Brazilian economy over the past two years

Brazil is currently suffering from the longest recession in a century; this coincides with the biggest bribery scandal in the country’s history and one of the most unpopular political leaders ever.

By the end of the year it is anticipated that Brazil’s economy will be 8% smaller than it was in the first quarter of 2014 (the last quarter to see growth in GDP). GDP per capita could be down by a fifth since its peak in 2010 and the three main rating agencies have demoted Brazilian debt to junk status.

Since 1985, when Brazil had the first democratically elected president after 20 years of a military government, political crisis has been a constant in the country. The Brazilian Commodity index, published by the Brazilian Central Bank (BCB), fell by 45% from March 2011 to December 2015. The commodity decline hit all emerging markets, but Brazil has fared particularly badly with its structural weaknesses, poor productivity and unaffordable public spending exacerbating the damage.

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A good year for emerging markets

This year’s astonishing performance of the Brazilian equity index could be explained by an international environment that, this year, has been kind to all Emerging Markets. The postponing of a rate hike from the Federal Reserve is keeping the dollar weak, helping commodity exporters, such as Brazil. Commodity prices have also picked up this year. With more and more government bonds actually paying a negative yield, emerging markets have in turn become a favoured asset class.

Investors say the market has been buoyed by the attractive rates offered on riskier debt alongside the expectation that global monetary policies will remain loose. Countries like Brazil are already taking advantage of these flows to soften borrowing costs.  Recently the country sold 30 years of US dollar denominated bonds with a yield of 5.875%, a yield lower than the 10-year debt sale completed in March.

More political stability

This year there has been a shift in Brazil towards a more liberal and fiscally responsible macroeconomic agenda. Recent support for President Michel Temer’s interim government in Congress has increased the chances of passing crucial fiscal reforms. President Temer took office on 12 May 2016 and has not disappointed on his willingness and ability to deliver a market-friendly agenda. The government is taking steps to stabilise fiscal accounts and reduce debt sustainability concerns. The final vote on Dilma Rousseff’s impeachment is scheduled for late August, soon there will be more political stability.

And now the Olympics Games

When the games were awarded to Brazil in 2009, these were not the headlines Brazil was hoping to have in 2016. This year Brazil has been famous for threats of terrorist attacks, high pollution, the zika virus, engineering failures, crime, corruption, a recession and a political meltdown. Given such low expectations, a successful delivery of the Olympics Games could have a positive impact on the markets. Since we already face some signs of renewed investor interest in the country, it may restore the confidence which is much needed.

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