- A 30% market decline tells me there is perhaps an opportunity.
- The key is to find long term fundamental values, good businesses and wait for better times that eventually come.
- However, a proper investment strategy must be implemented as nobody can know where the bottom will be.
Video here, article below!
I’ve been looking at my screens and, apart from solar stocks, another sector deep in the red has been Brazil. I made such nice returns in 2016 and 2017 from Brazilian stocks that when I see all that red, I start to smile again as opportunity knocks. I hope to share with you the strategy that produced the returns I had enjoyed. One example:
Figure 1 My articles on SA on CEMIG – “Be greedy when others are fearful.”
It is time to take another look at what is going on in Brazil, what the investment opportunities are and what the best investment strategy to minimize risk and maximize returns is.
Brazilian stocks – general overview
Following the FED’s interest rate hikes, the first cracks started showing up in emerging markets. Countries and companies that are burdened with U.S. denominated debt, but book revenues in their weakening domestic currencies, are squeezed by the two headwinds.
Further, crucial to emerging markets is sentiment. Volatile sentiment creates extremes, presenting opportunities for contrarians. More about that later.
Take a look at how volatile the Brazilian ETF has been. It was a 15-bagger from 2002 to 2008, only to drop 70% in the final year of that bull run. There was another bull run in 2009, followed by a long decline that ended in January, 2016. Since then the Brazilian stock market boomed again, only to drop 30% over the last six months.
Figure 2 Brazil ETF (EWZ) historical chart
I don’t know where the bottom of the current decline will be. The only option we have is to look at the fundamentals of possible investments and their relation to what is going on in Brazil. This leads to finding out their risk versus reward and intrinsic values. The goal is to find a good business that we can feel confident about averaging into if necessary.
There are two ways to look at an economy. One is to follow the headlines that are spreading panic or enthusiasm, depending on what appears to sell and lead to clicks. The other is to take a deep dive into key indicators and long-term trends. Let’s start by discussing the news.
The Brazilian general elections are coming this October and the Central bank has been having issues trying to keep the Real stable.
Figure 3 BRL to USD 5-year chart
Versus the dollar, the Brazilian currency depreciated 50% from mid-2014 to January 2016, then stabilized for about two years. As it became clear that interest rates would continue to rise, the Real has lost ground again during 2018. Currency volatility has a significant impact on our investment returns and has to be watched carefully.
The Brazilian currency has been weakening due to the current emerging market sell-off that usually creates a selling spiral because nobody can see a bottom; thus the trend is self-reinforcing. Further, the weaker currency leads to lower economic expectations that, in combination with shallow financial markets, creates an extremely volatile environment. And, as we know, markets do not like volatility and uncertainty.
The Brazilian Central Bank is protecting the currency with foreign exchange swaps and has offered $26 billion in the previous week. As always, investors wonder how long the Central Bank will be able to do that.
The above, in combination with a truckers’ strike that brought to a weekly transportation stop in the whole country during May 2018, has led many economists to cut their growth expectation for the remainder of the year.
Figure 4 Growth expectations for the Brazilian economy
Regarding the elections, markets hate, which is exactly what we have. The leader in the polls is the jailed former president, Lula. Without him, the highest number of votes would go to a right-wing candidate. Regardless, there is no clear outcome.
Figure 5 Brazilian election polls without Lula
Source: BNP Paribas
Because nobody knows what will happen, I like to make my investment analyses as if the worse will happen. This means that economic growth stagnates (perhaps to the point of recession), the currency loses another 25% of its value and then next political leader is from a business-unfriendly party. If I find a stock that would still deliver a nice business return, perhaps even a dividend, in such an environment, then I have a strong buy. Before digging into stock analyses, let’s evaluate the long term economic perspective.
Long term economic view on Brazil
It is very easy to lose sight of what is important when there is so much news about things that don’t matter. The important thing is that life in emerging markets goes on no matter what, gets better year by year and people continue to live as always (except for Venezuela). Plus, people in emerging markets are much more used to volatility than people in developed economies. Let me show you a few charts.
Despite the Brazilian stock market still being 65% below its 2008 peak, things have improved there during the last 10 years. For example, households’ internet access went from 23% to 70% and is still increasing.
Figure 6 internet access in Brazil
Source: BNP Paribas
An indicator I like even more is energy consumption. It shows how the real economy is developing independent of the temporary economic swings and market sentiment.
Figure 7 Electricity consumption in Brazil
Let’s evaluate investing opportunities while keeping in mind the volatility and possibility of extreme negative sentiment that can hit such markets.
The Brazil ETF (EWZ) already has better than average fundamentals, but it is important evaluate its holdings.
Figure 8 Brazil ETF fundamentals
The stocks are dividend into those directly traded on the NYSE or NASDAQ and on OTCPK.
Figure 9 Brazilian stocks traded directly on American Exchanges
|1||AMBEV S.A||ABEV||NYSE||Beverages||34.32||5.99||GOOD COMPANY – EXPENSIVE COMPANY|
|2||Azul||AZUL||NYSE||Airlines||46.95||2.48||BRAZILIAN AIRLINE TO CHECK|
|3||Banco Bradesco||BBD||NYSE||Banks||9.82||1.49||A look at banks in general necessary|
|4||Banco Santander Brasil||BSBR||NYSE||Banks||26.44||2.44||A look at banks in general necessary|
|5||BrasilAgro||LND||NYSE||Real Estate Inv&Serv||5.89||1||Small cap to watch on volatility and value|
|6||Braskem||BAK||NYSE||Chemicals||10.19||4.91||Potential deal with Lyondell|
|7||BRF S.A.||BRFS||NYSE||Food Producers||–||1.46||Operation weak flesh – nasty meat scandal! – nevertheless check|
|8||Centrais Eletricas Brasileiras||EBR||NYSE||Electricity||–||0.4||Suspended privatization process – look into!|
|9||Comp. Paranaense de Energia-COPEL||ELP||NYSE||Electricity||5.3||0.38||Cheap again – make long term earnings model.|
|10||Companhia Brasileira de Distribuica||CBD||NYSE||Food &Drug Retailers||29.76||1.93||COMPARE ALL UTILITIES AGAIN WITH EARNINGS MODELS|
|11||Companhia Energetica de Minas Gerais-CEMIG||CIG||NYSE||Electricity||6.38||0.56||COMPARE ALL UTILITIES AGAIN WITH EARNINGS MODELS|
|12||Companhia Siderurgica Nacional-CSN||SID||NYSE||Indust.Metals&Mining||6.61||1.53||Volatile steel – take a look|
|13||Cosan Limited||CZZ||NYSE||bioethanol, sugar and energy||10.17||1.16||sugar – complex stock – check|
|14||CPFL Energia||CPL||NYSE||Electricity||13.81||2||COMPARE ALL UTILITIES AGAIN WITH EARNINGS MODELS|
|15||Embraer||ERJ||NYSE||Aerospace & Defense||27.33||1.17||Check the long term outlook and new planes|
|16||Estre Ambiental||ESTR||NASDAQ||Waste Management||55.41||81.49||Fresh IPO check – severely down|
|17||Fibria Celulose||FBR||NYSE||Forestry & Paper||25.07||2.62||Loved it below $10|
|18||Gafisa||GFA||NYSE||HouseGoods&HomeConst||–||0.59||economy related, look|
|20||Gol Linhas||GOL||NYSE||Travel & Leisure||–||–||look when comparing airlines|
|21||Itau Unibanco||ITUB||NYSE||Banks||10.14||1.99||Itau Unibanco|
|22||Nexa Resources||NEXA||NYSE||Mining||15.38||0.77||check it out from a mining perspectinve|
|23||Netshoes||NETS||NYSE||Shoes||–||0.76||Fresh IPO check – severely down|
|24||Oi||OIBR||NYSE||Fixed Line Telecom.||0.08||0.09||probably wrong data on platforms|
|25||Petroleo Brasileiro-Petrobras||PBR||NYSE||Oil & Gas Producers||21.79||0.74||oil is not my thing – plus corruption 🙂|
|27||Telefonica Brasil||VIV||NYSE||Fixed Line Telecom.||16.556||1.11||not really a telecom lover|
|28||TIM Participacoes||TSU||NYSE||Mobile Telecom.||22.88||1.68||not really a telecom lover|
|30||Vale||VALE||NYSE||Indust.Metals&Mining||14.73||1.73||not related to Brazil|
Source: Compiled by author from various web sources
Check the cost of owning an OTCPK traded listing. I will also look at those for better specific sector analyses within Brazil.
Figure 10 Brazilian OTCPK investing opportunities
|1||Advanced Digital Health Medicina Preventiva S.A.||ADHMY||HealthCareEquip.&Ser|
|2||AES Tiete Energia||AESTY||Electricity|
|3||Banco do Brasil||BDORY||Banks|
|4||BB Seguridade||BBSEY||Financial Services|
|6||BR Malls Participacoes||BRMSY||Real Estate Inv&Serv|
|8||Comp. Energetica de Sao Paulo-CESP||CSQSY||Electricity|
|9||Comp. Paranaense de Energia-COPEL||ELPVY||Electricity|
|10||CR2 Empreendimentos Imobiliarios||CREIY||Real Estate Inv&Serv|
|11||Cyrela Brazil Realty||CYRBY||Real Estate Inv&Serv|
|12||Cyrela Commercial Properties||CYRLY||Real Estate Inv&Serv|
|13||Dommo Energia||DMMOY||Oil & Gas Producers|
|15||Duke Energy – Pref||DEIPY||Electricity|
|17||Engie Brasil Energia S.A.||EGIEY||Electricity|
|19||Estacio Participacoes||ECPCY||Support Services|
|21||Iochpe-Maxion Com||IOCJY||Automobiles & Parts|
|25||Kroton Educacional S.A.||KROTY||Support Services|
|27||Localiza Rent A Car||LZRFY||Support Services|
|28||Lojas Renner||LRENY||General Retailers|
|30||Marfrig Global Foods||MRRTY||Food Producers|
|31||Mills Estruturas e Servicos||MILTY||Construct.&Materials|
|33||MMX Mineracao e Metalicos||MMXMY||Indust.Metals&Mining|
|34||MRV Engenharia||MRVNY||Real Estate Inv&Serv|
|36||OLEO E GAS PARTICIPACOES||OGXPY||Oil & Gas Producers|
|37||OSX Brasil||OSXRY||Oil & Gas Producers|
|39||PDG Realty||PDGRY||Real Estate Inv&Serv|
|42||Raia Drogasil||RADLY||Pharma. & Biotech.|
|43||SLC Agricola||SLCJY||Support Services|
|44||Suzano Papel e Celulose||SUZBY||Forestry & Paper|
|47||Valid Solucoes e Servicos de Segura||VSSPY||Support Services|
|48||Via Varejo||GBXPY||General Retailers|
Source: Compiled by author from various web sources
Both tables are downloadable on my Research Platform.
My next step is to readjust all my earnings models for the stocks I have covered in the past and to analyze the other stocks from a risk-reward perspective. There are 79 stocks to evaluate. If we find one, I’m happy; two would be a miracle.
The investment strategy that has worked in the past was to find companies that will continue to grow business no matter what, find their average future earnings, and invest when the business return appears satisfying. Find investments where you can continue to invest if the stock drops to average down.
You can find the detailed analyses on my selected stock picks on my Research Platform.