"As expected, a majority of Senators voted in favor of Dilma Rousseff’s impeachment, which means Michel Temer becomes Brazil’s president and Dilma steps down. This is a positive development in our view given the track record of the previous government in tackling the country’s issues, but Temer's government is facing a lot of challenges. Furthermore, we have doubts on his ability to push through urgently needed reforms (especially the de-indexation of pensions and minimum wage). Congress might do what they did to Dilma and block some of the reforms and the ongoing corruption investigations make the whole thing very fragile.
In the short run, we will probably have positive headlines from market friendly names in the government as well as some easy low hanging fruits reforms. Combined with disinflation and lower rates, this could have a continuation of the positive sentiment in the short run. We have to be careful however in the sense that risk/reward at current asset price levels is no longer as compelling and interesting as it was 5-6 months ago.
That said, even as the political show goes on, most of the country’s economic indicators have shown first signs of improvement. Its current account balance is on the mend thanks to a weak currency, with a deficit that has now receded to below 3% of GDP. This welcome decrease has gone hand-in-hand with a growing inflow of foreign direct investment, which suggests that investor confidence is recovering. Inflation also seems to be moving in a favourable direction and, while it is still in double digits, the inflection point now appears to be behind us. All this has prompted us to increase our allocation to Brazil earlier this year. We had taken a stake in CCR, a diversified industrial group with highway and other infrastructure concessions. Not only does the company have solid growth prospects; it also displays a degree of financial discipline that fully meets our standards. Its return on equity is in the vicinity of 30%. For that reason, CCR is a perfect fit with our investment process. More recently, we added a position in Brazil’s leading insurer BB Seguridade, a company offering a 50% return on equity, far above its local and global listed peers. Insurance is an underpenetrated sector in Brazil, thus offering long-term growth potential, particularly life insurance where BB Seguridade has a strong exposure. We also doubled our exposure to MercadoLibre, the undisputed e-commerce leader throughout Latin America. This online retailer has a particularly strong presence in Brazil and Argentina, where it earns respectively 50% and 25% of its profits."
