Maybe Dilma’s not that bad.
Ok, that last comment is ridiculous. Dilma Rousseff, Brazil’s sitting president, is horrible. One of the worst national leaders in the Americas, in fact. She has micromanaged the Brazilian economy—and killed growth in the process. She has also eroded the independence of the central bank—and stoked high inflation in the process. And worst, she has scared much-needed capital, both foreign and domestic, out of Brazil. But there comes a point when even the potentially disastrous policies of a heavy-handed dirigiste administration with no respect for the free market are fully priced in, and that’s roughly where Brazil is today.
Take a look at the chart below. After multiple years of disappointing returns, Brazilian stocks had a fantastic run from February to early September of this year—due, at least in part, to a belief that Dilma would be defeated in the presidential election earlier this month. When the polls started suggesting a Dilma win, Brazilian stocks went into a tailspin and continued to drop immediately after she won the election.
But then, a funny thing happened. Brazilian stocks jumped on Thursday, up over 4% on the day.
What happened?
A couple things. To start, Brazil’s central bank raised interest rates. Normally, that would be bad for the market. But in the case of Brazil, it showed a pronounced change of direction by Dilma. She’s staying out of the central bank’s affairs and allowing it to do its job of fighting inflation. This is a return to normal, orthodox monetary policy—something investors are comfortable with. Dilma has also made conciliatory gestures since being elected, including promising to replace finance minister Guido Mantega—a man particularly disliked by Wall Street.
But in my view, the biggest reason for the jump in Brazilian stocks is simply that all of the bad news is more than priced in. Brazilian stocks trade at a CAPE of just 10 and have been in a bear market for 4 years now. And investor sentiment towards Dilma is so bad that it is hard to see it getting much worse. If she proves to be even marginally less than horrible in her second term, then investors might be in for a pleasant surprise.
Disclosures: Long EWZ
