BRASILIA: Brazil’s real, one of the world’s worst-performing currencies this year, is set to get a shot in the arm from the central bank’s stronger-than-expected interest rate hike on Wednesday and pledge of a second dose in May.
The central bank’s aggressive start to its tightening cycle, coming on the heels of its recent burst of foreign exchange market interventions, will put a floor under the real in the near term, analysts say. The signal from the US Federal Open Market Committee on Wednesday that it is in no rush to raise US interest rates should also keep the dollar in check, providing another layer of support for emerging-market currencies.
Strategists at global FX power-houses Citi and Barclays are among those recommending buying the real, via derivatives markets, on the belief that it will strengthen against the dollar over the coming weeks, and maybe even months.
The medium-term outlook, however, may be less certain.
Although Brazil’s central bank jacked up official borrowing costs by 75 basis points to 2.75% and said it will probably do so again in May, real interest rates will still be negative for some time, and therefore relatively unappealing to investors.
Inflation is running at 5.2% and heading for over 7% in the middle of the year before subsiding. The central bank’s own forecasts on Wednesday had it ending the year at 5.0%, well above its official goal of 3.75%. In addition, the consensus among economists holds that while the central bank’s rate-setting committee, known as Copom, has started its tightening cycle aggressively, the end point for interest rates has probably not changed much, if at all. This comes against the backdrop of an alarming public health crisis. Brazil is now the global epicenter of the COVID-19 pandemic, and a deadly second wave and slow vaccination program spell danger for the economy and public finances.
“The real is likely to benefit from the outcome of March’s FOMC and Copom meetings, but is not out of the woods yet. In the very near term, the evolution of the pandemic and vaccine rollout remain key for the real,” UBS strategists wrote in a note on Thursday.
Morgan Stanley strategists withdrew their recent call to sell the real and now expect “some near-term stabilization in the currency” following the Brazilian and US policy moves on Wednesday, but warned that “medium-term risks remain intact.”
On the domestic rate front, one of the key issues for the real’s longer-term performance will be the extent to which investor expectations on Copom’s tightening cycle shift. So far, the signs are: not much. Before Wednesday’s decision and statement, the consensus view of over 100 economists in the central bank’s weekly “FOCUS” survey was that the Selic will end this year at 4.50% and next year at 5.50%.
The currency’s move on Thursday provided an early indication of how much tightening was already in the real’s price. It rallied sharply at the open, almost 2% at one point, but by midday was up barely 1% around 5.54 reais.
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