Brazil's troubled financial system has some institutional investors seeing buying opportunities, although many remain reserved about the country's prospects.
The decision to let the real float was, for some, an opportunity to increase positions in Brazil, where many had been underweight.
Investors, of course, are clearly concerned about the bad news from Brazil. When Russia defaulted on government bonds in August, global bond markets seized up and equity markets took a dive.
But a number of major institutional investors do not believe such a global economic seizure will follow the Brazilian central bank's decision to let the currency float.
In fact, Wall Street thought the devaluation was inevitable, even though some observers weren't sure when it would happen, said Emily Alejos, a portfolio manager for Credit Suisse Asset Management in New York.
(The real lost close to 29% of its value against the dollar in the week ended Jan. 19.)
Although Brazil's problems are far from over, they are "not a catastrophic worldwide event," said David Harding, director of global investments in San Francisco for Nicholas-Applegate Capital Management.
"Brazil is somewhere between Asia and Russia," he said.
Russia's effect, Mr. Harding and other investors said, was felt by markets when hedge fund Long-Term Capital Management revealed its positions there and the depth of its borrowing.
Asian countries were weighted down by massive corporate debt, he said, while Brazil's problems stem from the government's need to cut spending and pass reforms.
On Jan. 20, Brazil's Chamber of Deputies, the lower house, passed a pair of social security measures that it had rejected several times last year.
The measures -- part of a 28 billion real ($16 billion) fiscal reform package of tax hikes and spending cuts -- will raise 4.1 billion reals per year. They increase the social security tax on civil servant earnings above 1,200 reals per month ($700 per month at the Jan. 21 exchange rate). The measures also impose an 11% tax on payouts to retired civil servants exceeding 600 reals per month and a 20% to 25% tax on the portion of their pensions above 1,200 reals per month.
The Senate is expected to pass the measures this week.
The government justified the moves by arguing that public-sector social security payouts created a $15 billion shortfall in 1998, nearly half of last year's $35 billion social security deficit.
ON THE MAP
From stock pickers to bond traders to private equity dealmakers, many institutional investors have Brazil very much on their maps.
Ernest Bachrach, chief executive officer, Latin America, for Advent International, Buenos Aires, Argentina, whose firm expects to wrap up a deal with a Brazilian software company by the end of March, has about $20 million in private equity in Brazil. By the end of the year, Advent's deals should total $50 million, he said.
Advent can spend six to 12 months researching a company, he said, and each deal has an initial investment of about $10 million. Advent looks for industries in Brazil with double-digit growth. The information technology sector, he said, is growing between 20% and 30% a year in Brazil. Advent likes companies that develop software to help companies manage human resources and logistics, he said, reasoning high interest rates will hurt producers of finished goods. Those companies will turn to investment technology and software companies to help them cut costs and save money, he said, predicting manufacturers will be forced to lay off people and rely on software.
High interest rates, used by the government to slow capital flight, will hurt Brazilian companies, investors said. Mr. Bachrach pointed to interest rates of 35% as hurting sectors such as manufacturing. Companies won't "get returns and fund their debt" at those levels, he said.
Overnight interbank interest rates had climbed to 32.5% by Jan. 20, while interest rate futures for March jumped to 54% a day later, according to Bloomberg.
SPURRING INVESTMENT
The devaluation has spurred investment in Brazil by some money managers.
Credit Suisse's Ms. Alejos, a director of Latin American equities, said her regional Latin American portfolio remains below the regional Brazil weighting of the portfolio's benchmark, but is higher now than before the devaluation. Ms. Alejos said she had changed the portfolio from aggressively underweight to moderately underweight Brazil since the devaluation, but declined to give specific weightings.
The Morgan Stanley Capital International Emerging Markets Free Latin America index had a 31.9% weighting for Brazil Jan. 20.
The MSCI Emerging Markets Free index had a Brazil weight of 14.35% on Dec. 1. On Jan. 1 that had fallen to 11.95%, while on Jan. 18 it was 9.38%. South Korea picked up most of that weight, moving from 7.58% of the index's weighting to 11.93% in the same time period.
Ms. Alejos is "not bullish," about Brazil, but said she bought telecom stocks as well as private-sector companies with good balance sheets.
Buying by portfolio managers combined with short covering by some investors helped spur the Bovespa index to its spectacular one-day 33% rally Jan. 15, she said.
Investors said they closely watched two events leading up to and triggering the Jan. 13 devaluation: the central bank's defense of the real; and a state governor's statement earlier in the month that he would default on debt to the federal government.
The day before the devaluation, London-based AIB Govett Asset Management looked at its underweight position in Brazil and ran valuations on a number of companies. It wound up buying Telecomunicacoes de Sao Paulo SA or Telesp, the telephone company of Sao Paulo, and Compania Vale do Rio Doce, an iron ore producer "and a big dollar earner," said Rachel Maunde, deputy managing director, investments.
AIB Govett has $300 million in institutional assets in Latin America, either in regional or global emerging markets portfolios. Brazil's weight in the portfolio, she said, is a "shade under neutral."
Babson-Stewart Ivory International bought into Brazilian telecoms and electricity sectors both before the devaluation and during its "very immediate aftermath for a couple of hours" before the markets spiked Jan. 15, said Katie Lundy, a Latin America specialist in Edinburgh, Scotland. The firm stopped buying when it "saw the market overreact," she said.
Babson-Stewart has about $700 million in emerging markets assets.
J.P. Morgan Investment Management Inc., New York, has been "light" in Brazil weightings in its emerging-markets debt and equity portfolios over the past six months, said Satyen Mehta, head of strategy, emerging markets equity.
Since the devaluation, it's now "marginally underweight in Brazil," he said.
Not all investors saw the devaluation as an opportunity to buy.
Other than a few "small buys and sells," Driehaus Capital Management Inc., Chicago, did not substantially change its 2% weighting in its overseas investments in Brazil, said William Andersen, senior vice president and portfolio manager. And, Mr. Harding of Nicholas-Applegate did not decide to increase the weighting of Brazil in the firm's dedicated global emerging markets equity portfolio. It sits at 5%, down from 10% a couple of months ago.
Despite the devaluation and the momentary boost to the Bovespa, Mr. Harding has yet to see proof of "sustainable positive change" in Brazil. "Floating the currency hasn't solved the problem. Brazil still needs to reform."
Michael Kepp contributed to this report
