Here is from Credit Suisse’s recent Latin America strategy report:
“After poor performance during May (-8.6% in local currency), the Brazilian market has moved to a clear discount to its historical multiples, now trading at 8.7x P/E vs. historical average of 10.5x. Considering the country’s low ranking on CS’s Euro safety scorecard and increasingly complex business environment (low “Doing Business” rankings), we maintain our Underweight Brazil in a LatAm portfolio and preference for Chile.
“… Historically, Brazilian equity valuations (as measured by forward P/E) and policy rates have had a tight, inverse correlation. Lower rates have been accompanied by higher multiples. Expressed another way, by inverting P/E, we see that earnings yield and policy rates have had a high correlation of close to 0.9. This implies that the Central Bank’s current loosening cycle should eventually be reflected in higher multiples for equities. Presently, we estimate the earnings yield on the Ibovespa close to 10%, higher than the reference rate of 8.5%.
The historical relationship between policy rates and equity valuations has not held up well in recent months, however. After a strong market rally in January, the Ibovespa contracted sharply by 15% in local currency terms, bringing down P/Es, even though the loosening cycle brought rates down from 10.5% to 8.5%. In spite of this disconnect, our view is that the current level of equity valuations (relative to SELIC rates) is still not necessarily a clear buy signal for two reasons. First, we still see potential downside risk to earnings estimates. Second, higher equity premium may in fact be warranted, at least in short-term, owing to less certain global macro scenario and developments in the local market.”
The report also mentions that consensus expectations for Brazil GDP growth have come down from 3.3% to 3.0% since the start of this year, but have not come down enough in CS’ opinion (their forecast is 2.5% for 2012)… see below: