Here is the summary of JPMorgan’s analysis about Brazilian equities and currency, according to their October ’11 report:
- We expect all assets to remain highly correlated as long as investors are reducing risk. There are few places to hide although this month’s chart (below) illustrates that domestic consumption proved resilient in 2008. We are underweight global cyclicals, materials and energy, in favour of the Brazilian consumer.
- Our house view is for an orderly, soft landing in China but emerging markets generally are slowing as policy makers intended. This is adding to global growth concerns and further supports our underweight in cyclical sectors.
- Equity valuations are now supportive and so with the recent correction in the currency we believe the case for Brazil has become more compelling. However, valuation alone is never a catalyst.
“Valuations are approaching 2008 lows, the re-rating since Lula’s election in 2002 has been unwound and Brazil is back to a comfortable discount to emerging market peers. Earnings expectations need to fall and global factors will dominate, but longer term investors have historically been rewarded at these levels.“
It’s worth noting that the real is one of just a few currencies where its appreciation in real terms over the last five years went well beyond what could be justified by the improvement’s in Brazil’s terms of trade. The chart below shows emerging market currencies relative to our fair value targets compared with the carry from local rates. Commodity-export currencies on the right hand side (BR real, ID rupiah, RU ruble) are still looking rich relative to our estimates of fair value. In contrast, the commodity importers (i.e. the exporters of manufactured goods or services) tend to be trading cheaply. However, the recent move in the real has nearly halved the level of overvaluation seen only a month ago.