Brazil Real's Volatility Falls to One-Year Low on Temer Optimism
Comment of the Day

July 20 2016

Commentary by Eoin Treacy

Brazil Real's Volatility Falls to One-Year Low on Temer Optimism

This article by Paula Sambo for Bloomberg may be of interest to subscribers. Here is a section: 

Volatility in Brazil’s real dropped to the lowest level in a year as the central bank acts to limit gains in the world’s best-performing currency amid speculation that a new government will pull the nation from its deepest recession in a century.

Three-month implied volatility on the real declined 0.05 percentage point to 16.78 percent, the lowest level since July 22, 2015, at 12:25 p.m. in Sao Paulo. The currency advanced 0.3 percent to 3.2393 per dollar.

Brazilian assets have led gains globally this year amid speculation that Acting President Michel Temer will trim a budget deficit, end credit-rating downgrades and restore confidence. Concern that the currency’s rally would hamper exports at a time when Latin America’s largest economy already faces its worst recession in a century has led the central bank to sell almost $50 billion of reverse swaps to stem gains. While the offerings are unlikely to change the direction of the real, they can mute volatility, Morgan Stanley strategists led by Gordian Kemen wrote in a report published last week.

“The domestic reform narrative in Brazil is an important qualifier for the currency and for the decrease in its volatility," said Mike Moran, the head of economic research for the Americas at Standard Chartered Plc in New York.

Eoin Treacy's view

The Brazilian Real is the best performing currency this year; gaining over 30% year to date. The chronic mismanagement of the economy that prevailed under Dilma Rousseff’s administration is now in the past and the new government has the opportunity to introduce unpalatable reforms early in its tenure so that it might benefit from the results by the time the next election needs to be called. Whether that eventually translates into improving governance and a sustained reduction in corruption and graft is an altogether different question, but we can conclude that at least for now governance is improving from a low base.

With an overnight rate of 14.15% there are strong reasons for why the Real is so firm when it is so hard to obtain similar yields elsewhere. The central bank will be eager to stem the advance lest the competitiveness gained from the devaluation be lost, but a sustained move above the trend mean would be required to check the Dollar’s downtrend against it.

The iBovespa Index rebounded impressively from the January low and is now testing the medium-term progression of lower rally highs. While somewhat overbought in the short-term, a sustained move below the psychological 50,000 level wold be required to question recovery potential. 

In an environment where there is a global dearth of attractive yields Latin America represents an exception. Clicking through the Central Bank Base Rates section of the International Equity Library we can quickly see that a number of Latin American countries (Colombia (7.5%) Mexico (4.5%), Argentina (28%)) have some of the most attractive overnight deposit rates globally. When their currencies were in freefall that didn’t matter but with increasing stability those yields must be looking attractive to foreign investors. In Asia Indonesia’s 6.5% base rate also stands out as considerably higher than its neighbours.


The Merval Index broke out to new highs in late June and, while somewhat overbought in the short term, remains in a demand dominated environment. The Global X MSCI Argentina ETF has rallied impressively from the lower side of the length medium-term range to test the upper boundary. 

The Mexican Mexbol Index broke out of a more than three-year range this week to post a new all-time high. The iShares MSCI Mexico ETF found support above $45 over the last year on three separate occasions but will need to break the medium-term progression of lower rally highs to reverse the downtrend.


The Colombian Index has been consolidating in the region of the trend mean for much of the last few months and a sustained move above 10,000 would reconfirm a return to medium-term demand dominance. The Global X Colombia 20 ETF has been consolidating above the trend mean for a similar time.

The Indonesian Jakarta Composite Index has held a progression of higher reaction lows since late last year and is now pulling away from the region of the trend mean.

The Market Vectors Indonesia ETF has also held a progression of higher reaction lows since late last year. 

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