Why the Brazilian real could depreciate further (Part 4)

Continued from Part 3

The foreign exchange depreciation has caused big losses for investors in Brazilian equities (EWZ) through 2013Q2—and the FX slide may continue

Inflation is just one of several macroeconomic indicators that has continued to disappoint investors in recent months.

Brazil Unemployment June 2013 2013-07-30Enlarge Graph

Continued negative macroeconomic indicators

Unemployment has consistently ticked up since the beginning of the year, reaching the 6% mark in June. Unemployment is rising even in Rio, which has shown some resilience as the city gears up for the 2014 World Cup. Industrial employment dropped 0.5% in June, consistent with what the June PMI (purchasing managers index) had predicted.

Both the Manufacturing PMI and the Services PMI in July were flat versus the previous month, and both threatening further slowdown. A key concern was the increased drop in new exports, which remained below the 50 point neutral growth line and marked the most pronounced contraction in a year and a half. This is in part driven by the slowdown in China (FXI) and partially by continued depressed conditions in Europe.

Retail sales in July were flat as well, and other recent confidence surveys didn’t excite investors.

Overall

After reviewing the pros and cons for further depreciation, it seems that the arguments towards further depreciation outweigh those for appreciation of the currency. Investors worried about foreign exchange risk could invest in Brazil through a hedged ETF (DBBR), but then again, given the negative backdrop, the Brazilian market (EWZ) is unlikely to rally any time soon.

In the short term, there may be some recovery as speculators start to build positions based on relative cheap valuations—but based on fundamentals, the timing is far from optimal.