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The Central Bank of Brazil first cut its benchmark interest rate by half a percentage point on 2 August 2023 after carrying out one of the most aggressive tightening. Subsequently, on 20 September 2023, it embarked on its second rate cut, reducing its key Selic rate to 12.75%.
Embarking on monetary easing would create a supportive backdrop for Brazilian equities, especially when many global central banks are still rather hawkish. Not to mention, Brazil’s economy is expected to grow more strongly than expected, with upward revisions to its GDP.
We shine the spotlight on JPM Brazil Equity A (acc) SGD Fund which makes use of fundamental, bottom-up research for stock selection. The fund aims to provide long-term capital growth by investing primarily in a concentrated portfolio of Brazilian companies.
We recommend the JPM Brazil Equity Fund for exposure to Brazilian equities, as the fund has managed to outperform its peers while also being more resilient in down markets.
Brazil has started cutting interest rates
The Central Bank of Brazil (Banco Central do Brasil) (BCB) started its rate-hike cycle much earlier compared to most central banks, adding 1,175 basis points of hikes between March 2021 and August 2022. After carrying out one of the most aggressive and pre-emptive tightening among major economies to help quell inflation from its peak of 12.13% in April 2022, the BCB has kicked off its first rate cut in three years.
On 2 August 2023, the BCB reduced its key Selic rate by 50 basis point to 13.25%, after holding the policy rate at 13.75% since August 2022, with lower inflation prompting this cut. Subsequently, on 20 September 2023, the BCB cut the Selic rate by another 50 basis points bringing it to 12.75%.The BCB has an inflation target of 3.25% in 2023 and 3% in 2024 and 2025, with a tolerance margin of 1.5 percentage points up or down. Inflation in Brazil accelerated in July and August after bottoming in June, due to supply factors mostly related to the phase-out of tax cuts to fuels and utilities. Currently, Brazil’s consumer inflation is at 4.61% year over year (yoy) in August, rising from falling 3.99% in July (Figure 1). It remains well below the 12.13% peak in April 2022, but is only slightly below the ceiling of the target band of 3.25% +/- 1.5%.
Figure 1: Brazil inflation figures
JPM Brazil Equity Fund: A high-conviction portfolio for investing in Brazil
Embarking on monetary easing creates a supportive backdrop for Brazilian equities, especially when many global central banks are still rather hawkish. With this, we shine a spotlight on the JPM Brazil Equity Fund, which aims to provide long-term capital growth by investing primarily in a concentrated portfolio of Brazilian companies.
The fund is managed primarily from a fundamental, bottom-up perspective using ideas generated by both the portfolio manager and a team of emerging markets investment professionals. More specifically, the fund focuses on investing in high quality businesses that compound earnings sustainably over the long-term, with in-depth fundamental analysis focusing on the Economics (e.g. sustainable return of capital, cash flow generation), Duration (e.g. industry structure & growth, resilience of the business), and Governance (e.g. shareholder focus, management competence) (Figure 2). Financially material ESG information is considered at every stage of the decision-making process, including research, company engagement and portfolio construction. Overall, it runs a concentrated portfolio of approximately 25-50 securities (currently has 37 holdings as of 31 July 2023).
Figure 2: Fundamental analysis focusing on the economics, duration, and governance of business
The fund is benchmark-agnostic and has no market capitalisation or sector bias. It uses the MSCI Brazil 10/40 Total Return (Net) Index mainly for performance comparison purposes. Given its benchmark-agnostic nature, the fund’s exposure may differ substantially from the benchmark. For instance, it is overweight in sectors such as Industrials (+7.0% relative to benchmark), Financials (+6.2% relative to benchmark), and Consumer Discretionary (+4.8% relative to benchmark). On the other hand, it remains underweight in sectors such as Utilities (-7.6% relative to benchmark), Materials (-5.9% relative to benchmark), and Energy (-4.4% relative to benchmark).
Figure 3: Sectoral breakdown of fund vs benchmark
The fund’s top holdings (Table 1) include prominent names within Brazil’s economy. For instance, Petroleo Brasil (10.0%) or Petrobas, is Brazil’s state-owned energy giant which handles exploration, production and distribution of the country’s oil and gas resources. It is the leading oil and gas company in Latin America based on annual sales.
Besides Petrobas, the fund holds Itau Unibanco (8.6%), which is the largest bank in Latin America by assets. Itau Unibanco was the result of a merger between Banco Itaú and Unibanco in 2008, and is a key player particularly in Brazil. The company operates as a universal bank, offering a wide range of financial services to individuals, small businesses, and corporate clients.
Another notable holding is Localiza (7.3%), a provider of car rental services. The company also carries out used car sales and franchising services in Latin America. It is the largest car rental company in Latin America, and its top position in the industry allows it to leverage in negotiations with auto makers to have the lowest unit cost, thereby setting the company as the natural consolidator in the fragmented car rental market.
Table 1: Top ten holdings of the fund
|
|
Holding Name |
Sector |
Net Assets (%) |
|
1 |
Petroleo Brasil |
Energy |
10.0% |
|
2 |
Itau Unibanco |
Financials |
8.6% |
|
3 |
Localiza |
Industrials |
7.3% |
|
4 |
WEG |
Industrials |
6.1% |
|
5 |
Banco Bradesco |
Financials |
5.5% |
|
6 |
Banco BTG Pactual |
Financials |
4.9% |
|
7 |
Vale |
Materials |
4.8% |
|
8 |
Itausa |
Financials |
4.6% |
|
9 |
B3 SA Brasil Bolsa Balcao |
Financials |
4.5% |
|
10 |
Raia Drogasil |
Consumer Staples |
4.3% |
|
Source: JP Morgan Asset Management Data as of 31 August 2023 |
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Relatively strong performance against its peers
Looking at the fund’s performance in the last five years, we find that it has outperformed its peers HGIF – Brazil Equity Fund and BNP Paribas Brazil Equity Fund on a cumulative basis (Figure 4). It has similarly demonstrated consistently strong performance relative to its peers on a calendar year basis (Figure 5). This is a testament to the portfolio managers’ stock picking skills and their investment philosophy of investing in high quality businesses.
Figure 4: Performance against peers
Figure 5: Performance against peers over the past five calendar years
We also note that the fund managed to demonstrate greater resilience in down markets, having exhibited a lower maximum drawdown compared to peers (Figure 6).
Figure 6: Lower drawdown compared to peers
Final Thoughts
All in all, we believe that there is a compelling case for investing in Brazil with improving macroeconomic conditions and monetary easing creating a supportive backdrop for equities.
For investors looking to invest within this space, we recommend the JPM Brazil Equity A (acc) SGD Fund. The fund focuses on investing in high quality businesses that compound earnings sustainably over the long-term and has a strong performance track record. Not to mention, by choosing to focus on high quality businesses, the fund has also managed to prove its resilience during periods of market selloffs.
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