The Risks and Rewards of Investing in Brazil

São Paulo, Brazil, stock market (Bolsa de Valores Bovespa)Is now the time to invest in Brazil, one of the world’s largest developing economies? Investors who were initially scared off by the election of the leftist Lula to the presidency in 2002 are now flocking to Brazil.

The São Paulo bourse (stock market), Latin America’s largest with a market value of US$ 363 billion, attracted 1.63 billion reais (US$ 636 million) of foreign investment this year through Feb. 10, almost equal to the total 1.8 billion reais for all of 2004.

The trading volume on Wall Street in Brazilian ADRs (American Depository Receipts – more on these later) rose 79 percent in 2004 compared with 2003 to a US$ 275 million daily average.

Investment banks have also been drawn to invest in the country, notably Goldman Sachs, which recently entered into talks with Rio de Janeiro-based Banco Pactual SA, a major Brazilian investment bank, to create a US$ 2 billion joint venture aimed at opportunities in Brazil.

Earlier this year, New York-based Citigroup announced plans to expand consumer lending outlets fivefold in Brazil by 2008 while adding full-service branches. Last year also saw a wave of dealmaking, as several initial public offerings (IPOs) went to market with predictions of more to come.

And renewed interest on behalf of some Latin American fund managers like T. Rowe Price, as well as individual investors, may be a sign that things are finally looking up again for South America’s largest economy.

So how have investors in Brazil done so far? While the U.S. stock market had a respectable 9 percent price gain in 2004, Brazil delivered a gain of over 30 percent last year.

Despite the increased demand and price gains, the Brazilian market still looks attractive to many investors, who believe the low price/earnings valuations are attractive.

While U.S. shares trade at 19 times latest 12-month earnings and European shares at 16 times earnings, the Brazilian market is trading at 7.5 times its companies’ 2005 earnings forecasts, which makes it the cheapest among 32 world markets tracked by Rochdale, an investment manager.

So what is driving all this interest? Advisors typically point to a relatively stable political environment coupled with increased growth in the economy.

The economy is being helped by demand for Brazil’s agricultural products such as soybeans, and a surge in the price of locally-produced commodities like iron ore.

Such factors led the government to announce on March 1st that the domestic product of the country expanded in 2004 at 5.2 percent, its fastest pace in a decade. Most economists expect growth to continue, albeit at a slower but decent 3.5 percent.

How To

So how should one go about investing in Brazil? If you don’t have the opportunity to set up a brokerage account in Brazil, you can still tap into Brazil’s potential through your home country stockbroker by investing in American Depository Receipts, or ADRs.

ADRs are negotiable U.S. certificates representing ownership of shares in non-U.S. corporations. And if you feel like trading in stocks in Brazilian companies that don’t trade on U.S. markets, or “foreign ordinaries”, try setting up an account with Intltrader.com, an online broker offering trading in over 8,000 unlisted ADR’s and ordinary stocks in over 20 countries.

Before you start trading, consider some of the risks below, which can be substantially greater than in more developed countries.

Political risk – Any political event, such as the dismissal or appointment of a key government minister, can cause the value of the company’s shares to fluctuate up or down.

Exchange Rate Risk – If you’re using a foreign currency such as dollars or pounds to purchase shares of Brazilian companies, remember fluctuations in exchange rates can cause sizeable losses when you sell, even if the company had been performing well.

Exchange rates can also affect profits. For example, many Brazilian exporters have been complaining recently that the strength of the real against the dollar has made their goods more expensive in the international marketplace, which may lead to a downturn in export sales.

Inflationary Risk – This is an extension of the exchange rate risk, something of which Brazilians have long experience. Inflation is the rate at which the general level of prices for goods and services is rising, and subsequently, purchasing power is falling.

Inflation can cause a company’s services to become too expensive, for instance when oil price inflation leads airlines to raise ticket prices to cover their costs.

So before you invest, try to examine all of the risks thoroughly – or consider retaining a professional financial advisor. Next month, we’ll examine some of Brazil’s largest companies, including steel giant Companhia Siderúrgica Nacional, mini-mill steel producer Gerdau S.A., mining giant Companhia Vale do Rio Doce, and Brazilian state run oil company Petrobras, Petróleo Brasileiro.

All information and content herein is furnished – as is – without warranty of any kind, express or implied, including but not limited to implied warranties of merchantability, fitness for a particular purpose, or non-infringement of third party rights.

In no event will the author or his affiliates be liable for any damages, including without limitation direct or indirect, special, incidental, or consequential damages, losses or expenses arising in connection with this article.

Questions and comments to Gary Sands, the author, may be sent to sandsgary@yahoo.com.

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