As we
approach Brazilian Presidential elections, it is probably an opportune time to
illustrate the case for going short the BRL - timing wise, initiating a small
position now could make sense (EURUSD 2.90 as of today), but the big move should happen after Brazilians goes to the polls. Whoever win, the BRL should start a sharp decent to
last decade lows against major currencies as the Brazilian economy
craters.
After 3
terms, the BR socialist party is leaving the economic landscape in total disarray –
The socialist government essentially ran the country during 12 years as would
do a sub-Saharan dictator.
Brazil
economy now presents most of the basic elements for a fully blown financial crisis:
-
historical high current account deficit (one of the world largest vs GDP)
-
historical high private sector external debt in foreign currencies
- high
private sector debt level
- high
inflation levels + high inflation expectation levels
- short
term rate (SELIC) management broken as a tool for monetary/fiscal policy – Less
and less effect of the SELIC rate (short term rate) on inflation level as the
BNDES is lending money at subsidized rates (5.5%). BNDES is now the largest
loan originator in Brazil.
- the daily manipulation of USDBRL to
maintain the currency (via swap) in a tight band before election (in order for
the inflation not to run up further before the poll) – is reducing
external reserves: the swaps are exhausting foreign fx reserves on a net basis
as the central bank is taking huge hit on its short USD exposure created with
the fx swaps
-
historical low industrial production level and deteriorating
-
historical low private sector confidence
A
currency devaluation would increase competitiveness + in parallel leveraging up the
government debt (which would put additional pressure on the FX) to invest in huge projects would help fight inflation on a
structural basis and provide jobs while the economy digest the short term
hangover of the devaluation. Brazil gov probably will need to invest at least
10% of GDP as a one time fiscal stimulus (approx USD 250bn at current rates)-
I expect
a 40-60% devaluation for the BRL over the next 24 months. It could unravel much
quicker as net currency exposures of the Brazilian sector could trigger a snow
ball effect.
I copy/paste
below few charts that illustrate the case - charts Sources: GS, TradeEconomics,
BNDES BSI
