Investors on alert as government tries to reshuffle debts

. Oct 05, 2020
investors brazil Bolsonaro plays with water fountain during rally. Photo: Isac Nóbrega/PR

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This week, we talk about how the once pro-Bolsonaro market investors now frown upon the government. And the privatization of a key energy distributor.

Government sparks trust crisis among investors

The Bolsonaro administration rattled investors last week

after it was suggested that a new welfare program would be paid for with money from a fund to finance basic education and by postponing the payment of <em>precatórios</em>, a sort of government IOU bond. The stock market crashed, as did the Brazilian currency — already the <a href="https://brazilian.report/newsletters/brazil-daily/2020/10/02/how-the-coronavirus-infected-the-brazilian-currency/">worst-performing in the world</a>&nbsp;—&nbsp;as the government flirts with the idea of essentially breaching its own federal spending cap, by creating exceptions for welfare programs.</p> <p><strong>Why it matters. </strong>In 2016, a constitutional amendment prevented the government from raising spending unless it is matched by an increase in revenue. If that is not the case, the budget will only rise in accordance with the previous year&#8217;s inflation — and increasing spending in one area must come at the cost of reshuffling public funds from another field.</p> <p><strong>How do </strong><strong><em>precatórios</em></strong><strong> work?</strong> These bonds are issued after the government loses legal battles. As opposed to paying these debts promptly during the corresponding tax years, the Brazilian government often issues IOUs. Reducing the budget available for these payments would increase debt levels in the following years —&nbsp;not to mention the fact that the government would have to cherry-pick which creditors would be paid first.</p> <ul><li>Investors fear that, after defaulting on IOUs, the administration could also default on government bonds or the public debt.</li></ul> <p><strong>Short-term debt.</strong> Recent data by the Treasury Department shows that public debt expiring within 12 months will reach 18.2 percent of GDP in 2020 — the highest rate in 12 years. As a result, the average expiring maturity of Brazil’s public debt fell to the 3.5-to-3.8-year range. </p> <ul><li>That happened as investors sought more liquidity — but the Treasury Department reckoned that having a shorter time to pay its dues &#8220;increases the risks of refinancing.&#8221;</li></ul> <div class="flourish-embed flourish-chart" data-src="visualisation/3920536" data-url="https://flo.uri.sh/visualisation/3920536/embed" aria-label=""><script src="https://public.flourish.studio/resources/embed.js"></script></div> <p><strong>Scared investors.</strong> Brazil&#8217;s bond market has become rather bumpy due to fears of government overspending. In September, bonds pegged to inflation (Tesouro IPCA) had major losses, especially for long-term contracts. Tesouro IPCA 2045 dropped 12.4 percent, for instance.</p> <ul><li>Even Tesouro Selic 2023, a bond for conservative investors, has dropped for the first time since 2002. This bond is pegged to the Selic benchmark interest rate and is not expected to fall unless there is an interest rate cut.</li></ul> <p><strong>Outlook.</strong> Analysts project a volatile month of October for Brazil. There is a clear division within the administration between Economy Minister Paulo Guedes — who preaches austerity — and the rest of the administration. While there is no evidence whatsoever that Mr. Guedes could resign, he is losing credibility with markets and members of Congress.</p> <ul><li>On July 6, Mr. Guedes said the government would announce four major privatizations within the space of three months. That deadline expires tomorrow, with no such projects presented so far.</li><li>Meanwhile, in a desperate attempt to fund the president&#8217;s future welfare program, allies of the government seem to be throwing proposals at the wall to see what sticks — and change course depending on the market&#8217;s reactions.</li></ul> <p><em>— with Natália Scalzaretto</em></p> <hr class="wp-block-separator"/> <h2>The privatization of Brasília&#8217;s energy company</h2> <p>One week from now, shareholders of the Brasília Energy Company (CEB) will meet to pass a motion that would privatize the company. Controlled by the government of Brazil&#8217;s Federal District, CEB is buried under over BRL 1 billion (USD 176 million) in debt and would need BRL 400 million in investment just to keep its rights to supply energy to the Brazilian capital. On September 26, CEB informed that the minimum bid is BRL 1.42 billion.</p> <ul><li>As part of the privatization process, CEB has launched a voluntary redundancy program to cut 120 of its 900 employees. The company will also transfer another 100 staffers to a new public lighting firm, separated from CEB.</li></ul> <p><strong>Suitors.</strong> At least three groups are interested in a deal — Equatorial Energia, Energisa, and Enel. These companies see CEB&#8217;s assets as strategic, allowing for an expansion of their footprint in Brazil&#8217;s Center-West region (in the cases of Energisa and Enel), or the entry in the region (in Equatorial&#8217;s case).</p> <ul><li>Equatorial and Energisa have been successful in recent privatization auctions. The former snatched energy distributors in Piauí and Alagoas (in Brazil&#8217;s Northeast), while the latter bought energy companies in Acre and Rondônia (North).</li></ul> <p><strong>Challenges for investors.</strong> Among CEB&#8217;s major money drains are illegal energy connections. The company estimates there are around 62,000 of them in the capital — which causes yearly losses of BRL 90 million.</p> <p><strong>Opposition.</strong> Unions and consumer defense institutions have been skeptical of the privatization. They mention recent cases in the states of Goiás, Acre, and Pará, where tariffs went up by as much as 40 percent while the quality of energy supply services remained subpar, with these areas facing &#8220;constant power outages.&#8221;</p> <hr class="wp-block-separator"/> <h2>Markets</h2> <p>Brazil&#8217;s weak currency, matched with a recovery in iron ore prices and a growing production of the mineral commodity, has made analysts at investment bank BTG Pactual single out mining firms as the Brazilian stocks to watch in Q4 2020. They mention Vale and CSN as having the biggest upsides, based on predictions that &#8220;iron ore prices shall remain above USD 100/ton for some time.&#8221;</p> <hr class="wp-block-separator"/> <h2>Religion on the ballot</h2> <p>Data from Brazil&#8217;s Superior Electoral Court shows that the number of candidates in the 2020 municipal elections who are overtly associated with churches is up 34 percent from 2016. However, they account for just 1 percent of the total number of candidates to be present on ballots. The list, however, only considers candidates whose <em>nom de guerre</em> includes a religious moniker, such as &#8220;Father,&#8221; or &#8220;Pastor.&#8221; Therefore, the number of religious candidates is certainly larger —&nbsp;as politicians who don&#8217;t use titles but are connected to churches, such as Rio de Janeiro Mayor Marcelo Crivella, are not factored in.</p> <div class="flourish-embed flourish-chart" data-src="visualisation/3920356" data-url="https://flo.uri.sh/visualisation/3920356/embed" aria-label=""><script src="https://public.flourish.studio/resources/embed.js"></script></div> <div class="flourish-embed flourish-chart" data-src="visualisation/3920389" data-url="https://flo.uri.sh/visualisation/3920389/embed" aria-label=""><script src="https://public.flourish.studio/resources/embed.js"></script></div> <hr class="wp-block-separator"/> <h2>Looking ahead</h2> <ul><li><strong>Public spending. </strong>The government is facing heat after it was revealed to have transferred BRL 7.5 million (USD 1.3 million), originally earmarked for buying Covid-19 tests, to a program headed by First Lady Michelle Bolsonaro with no relation to the pandemic. The money had been donated by beef producer Marfrig in March, but the government said it changed its purpose as the Health Ministry &#8220;no longer needed Covid-19 tests.&#8221;&nbsp;</li><li><strong>Inflation.</strong> On Friday, the official inflation rate for the month of September will be released. The mid-month prediction suggested that September might see the biggest increase for the month since 2012 — driven mainly by rising <a href="https://brazilian.report/business/2020/09/09/food-inflation-triggers-warning-for-brazil-bolsonaro/">food</a> and fuel prices.</li><li><strong>Accountability. </strong>President Jair Bolsonaro has reportedly zeroed in on Jorge Oliveira, a close aide of his, as his pick for a seat on the Federal Accounts Court (TCU), a sort of audit tribunal that monitors public spending. A seat will soon be vacant, as one of the court&#8217;s members privately told the president he will retire at the end of the year. Mr. Oliveira has worked for the Bolsonaros for over 20 years, and has a personal bond with the president&#8217;s sons.</li></ul> <hr class="wp-block-separator"/> <h2>In case you missed it</h2> <ul><li><strong>Supreme Court. </strong>President Jair Bolsonaro intends to choose <a href="https://brazilian.report/newsletters/brazil-daily/2020/10/01/brazil-jair-bolsonaro-zeroes-supreme-court-pick/">Federal Judge Kássio Nunes</a> for a spot on Brazil&#8217;s Supreme Court. A seat will become vacant on October 13, when Justice Celso de Mello — the longest-tenured member in the court’s history — will retire. Mr. Nunes’ name came completely out of the blue, yet pleased the legal community due to his reputation as a diligent judge. Still, Chief Justice Luiz Fux was disgruntled for not being consulted by the president, and reportedly said that a Supreme Court nominee should have a “thicker résumé.”</li><li><strong>Bolsonaro.</strong> A new survey by pollster PoderData shows that 37 percent of Brazilians believe their lives have <a href="https://brazilian.report/power/2020/08/18/jair-bolsonaro-has-never-been-safer-from-impeachment/">improved since Jair Bolsonaro came to power</a>. Meanwhile, 28 percent say things have gotten worse. The data reinforces the perception that Mr. Bolsonaro’s popularity hinges on the coronavirus emergency salary — but sustaining welfare programs will be a challenge for the cash-strapped government.</li><li><strong>Oil and gas.</strong> The Supreme Court granted Petrobras the right to slice up its assets among subsidiaries in order to speed up privatizations. Congress had complained that the move was a way to circumvent the Legislative branch’s powers to block privatizations of parent companies owned by the government. As part of its divestments program, Petrobras wants to sell eight of its 13 oil refineries by 2021, hoping to raise around USD 8 billion in the process.</li><li><strong>Anti-science. </strong>A new <a href="https://www.pewresearch.org/science/2020/09/29/science-and-scientists-held-in-high-esteem-across-global-publics/">survey</a> published by the Pew Research Center shows Brazil is the country in which the lowest percentage of people trust that scientists do what is best for society, among 20 surveyed nations. While in most countries skepticism toward science runs along political lines — with the right wing tending to be less trusting of scientists — there is no such ideological cleavage in Brazil: only 22 percent of Brazilian right-wingers trust scientists ‘a lot’, the exact same rate among left-leaning individuals.</li><li><strong>Unemployment.</strong> Brazil posted record-setting unemployment levels, with 13.8 million people out of work. As we <a href="https://brazilian.report/business/2020/09/24/brazils-unemployment-rises-as-isolation-goes-down/">previously reported</a>, unemployment only accounts for those actively seeking jobs, meaning the rate is likely to rise even further as more and more Brazilians leave self-confinement and attempt to return to work.

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