Brazil the Best of BRIC

By Carl Delfeld of Chartwell ETF & ETFfolio.com

Foreign investors have pulled out a net US$9.3bn from Brazil’s (EWZ) stock market so far this year to cover losses elsewhere. Its market has suffered like most in the world but much less so than other BRIC partners such as Russia, China and India.

This confirms my oft-stated belief that BRIC begins with Brazil. Political stability (Mr. Lula is up there in the stratosphere at a 78% approval rating), strong consumer spending, more flexible exchange rates, a more effective central bank and higher reserves may help Brazil weather the global financial storm much better than most expect.

Brazil has been able to maintain foreign reserves in excess of $200bn. More than that, the credit crisis may have come at a good time, potentially helping the economy to cool without damping growth too far below the country's potential. Inflation has risen recently to about 6% due to strong consumer spending. A slowing of global growth could be helpful in moderating this and also allow the central bank to suspend its tightening policy sometime later this year.

"The effects [of the global financial crisis] will be much more benign here than in the developed world," says the chief economist of a large foreign bank in São Paulo quoted by the Financial Times. "We expect growth to slow from 5.4% this year to 3.5% next year. Compared to global growth of at best 1% in 2009, that's excellent."

In addition, Brazil’s newly discovered reserves are both huge and hard to reach, are expected to propel Brazil up the table of oil producing nations. BP CEO Tony Hayward says the new finds are “as significant as the North Sea” – which in the 1970s was one of the new frontiers that helped pull the world out of its last big oil shock.

But many in the center-leftwing government seem determined to avoid sharing the coming bonanza. The future shape of the industry may be decided by short-term political maneuvering leading up to presidential elections in 2010.

Petrobras, the top holding in the iShares MSCI Brazil ETF (EWZ) and a world leader in deep-sea exploration, is a natural leader for the difficult task of tapping what are some of the most inaccessible oilfields on earth. But the government may have other ideas. IT is likely to create a new national oil company, backed by President Lula da Silva, under 100% government control, to take ownership of the new reserves and develop them in partnership with Petrobras and others. While Petrobras is controlled by the Brazilian state through a majority of its voting stock, most of its capital is in non-voting shares. Some 60% of total capital is held by minority and largely foreign shareholders who would miss the opportunity to benefit from exploiting the offshore discoveries.

Already the world’s biggest producer of almost any farm product you like to mention, including ethanol made from sugar cane, Brazil is the fourth biggest manufacturer of cars and will soon become an important oil exporter. Its home markets are booming and have become a huge magnet for foreign direct investment. Its capital markets are attracting massive inflows from overseas. Meanwhile, Brazilian society is being transformed as incomes rise and inequality falls. Recently, Wal-Mart announced it would invest $1.1bn in 80 to 90 new stores in Brazil next year, where it currently operates 330 stores.