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Deutsche Bank Says BRL More Attractive Than Rates

BRAZIL
  • Deutsche Bank believe that heightened uncertainty about global fiscal policy and inconsistent domestic policy goals will resolve with lower growth, which will leave room for cuts over the next year, favouring 1Y receivers. Although the curve prices in gradual inversion, DB believe that debt crisis risk is more front-loaded, which will benefit front-end flatteners. Meanwhile, tighter financial conditions favour further BRL retracement, in their view. These positions would naturally suffer from additional fiscal setbacks – the main risk factor for all markets.
  • Deutsche Bank believe that fundamentally, the BRL seems more attractive than rates. It is undervalued vs. fundamentals, it has been the laggard across EM FX and it benefits from a more hawkish monetary policy and persistent trade surpluses. The main headwind has been capital outflows.
  • With reserves high, CAD below 1.5% of GDP, and tight monetary policy, the main tail risk for the BRL is debt monetisation. While current fiscal policy is inconsistent with sustainability, monetising the debt seems by far the most difficult policy option to pursue: It is very regressive, and it would be devastating for the banking and pension systems.
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