Emerging-market investors finally see some upside again in Brazil after 1999 began with a dramatic currency devaluation that set the tone for a year of fiscal austerity and hard-fought economic and political reform.
With the Bovespa index inching forward just 1.7% in dollar terms year to date through the end of October, investment in Latin America's anchor market has been little more than dead money this year. But a growing list of investors are looking for Brazil to outperform in 2000 if the country emerges from recession as expected and gross domestic product growth lives up to forecasts of more than 3% for next year, compared with the forecast 0.3% decline this year.
"I think Brazil is among the cheapest markets in the world," said Jeffrey Chowdhry, a portfolio manager with Foreign & Colonial Emerging Markets in London. "The devaluation of the real really turned the current account situation around and inflation is declining."
The fund manager forecasts corporate earnings in Brazil will grow 20% in 2000 and thinks foreign direct investment will continue to flood into the country.
Emerging-markets funds managed by Foreign & Colonial have recently been adding to their positions in Brazil and have increased the country to an overweighted 15% allocation in most of its portfolios. F&C manages more than $4 billion in emerging-market funds.
Indeed, nearly one-third of the participants at a recent global emerging-markets conference in New York held by Morgan Stanley Dean Witter & Co. cited Brazil as their favorite market going forward -- significant given that foreign investors have been net sellers of Brazil since August.
Because of fears about the Y2K computer bug and concerns about the country's budget deficit, foreign investment on the Sao Paulo Stock Exchange has dropped to 30% of total investment, compared with 40% earlier this year. Analysts note that much of that total actually is Brazilian money returning from off-shore tax havens.
Y2K fears might be overblown regarding Brazil, which suffers from its festive reputation and the misperception that it prefers to fiddle as Rio burns.
"We analyzed many Brazilian firms, including electric utilities and financial institutions, and they all have done a tremendous amount of work to combat the (millennium) bug," said Ian Laming, a New York-based Latin America strategist with Morgan Stanley Dean Witter.
The Brazilian Securities and Exchange Commission announced in October that the largest companies in Brazil have spent nearly $12 billion to prevent Y2K problems.
Analysts contend that a sign of the considerable upside in Brazil in 2000 is high interest rates, which continue to hover around 19% while the country's fiscal deficit is expected to be cut in half between this year and next year to about 4% of GDP. High interest rates in Brazil are the legacy of the years of high inflation and a fixed currency regime. But as rates drop and growth resumes, the theory goes, the country's domestic investors will shift to stocks from bonds.
The backdrop for exploitable interest rates in Brazil are global forecasts of low inflation and high growth next year.
Mr. Laming is disillusioned by Brazil's fiscal reform plan, which he claims is not solving the country's social security deficits, but rather is transferring the problem from the state to the private sector through an assortment of corporate and personal tax hikes that have been imposed recently.
Yet even he admits Brazil's inadequate fiscal reform will not stop the market from going up. "The more powerful stock market forces right now are low inflation, corporate restructuring and lower rates," he said. "As locals switch from debt to equity, we could be in for quite a ride. My sense is that we are close to the point at which that switch takes place, but only if the U.S. calms down."
He added the rally will be sustained only if the government is able to put forward a more credible long-term fiscal plan.
While Mr. Laming sees short-term opportunity in Brazil, other investors are looking to the country as a long-term holding. Grace Pineda, first vice president of Merrill Lynch Asset Management in Plainsboro, N.J., and the senior portfolio manager of the $200 million Merrill Lynch Developing Capital Markets Fund, said: "The emerging-markets valuations story is still there for Brazil. It represents our fund's overall philosophy of looking at places where there is value now and where we are willing to sit for the next three years."