July 7, 2015 / 4:46 PM / 4 years ago

Analysis: Brazil's investment grade credit rating at risk again

RIO DE JANEIRO (Reuters) - Concerns that Brazil may lose its coveted investment grade credit rating are again on the rise among government officials and investors who worry that President Dilma Rousseff’s austerity push won’t fully offset plunging government revenues.

A man walks past a board showing the Real-U.S. dollar exchange rates in Rio de Janeiro March 4, 2015. REUTERS/Sergio Moraes

As Brazil prepares for a crucial ratings review by Moody’s Investors Service in the third quarter, members of Rousseff’s economic team are reaching out to credit ratings agencies to ask for a vote of confidence in the government plan to increase budget savings, a source with access to one of the ratings firms said.

A government source close to Rousseff’s economic team confirmed the talks, saying the government “cannot ignore” risks to the investment grade.

A downgrade from investment to speculative “junk” status would be a significant blow to Rousseff’s plan to revive investment and growth in Latin America’s largest economy as it would scare off long-term investors and increase borrowing costs for companies and the government.

Brazil seemed on track to keep its investment grade earlier this year after Finance Minister Joaquim Levy garnered enough political support for the savings plan, a possible debt crisis at state-run oil company Petrobras was defused and Standard & Poor’s reaffirmed the country’s rating with a stable outlook on March 23.

Since then, however, government revenues have fallen short as Brazil heads for a deeper-than-expected economic recession. As a result, Brazil is poised to miss its fiscal savings target for 2015, adding pressure on the ratings agencies to downgrade the country.

In May alone, revenues fell 4 percent from a year earlier despite a series of tax hikes, pushing down the primary fiscal surplus, or the what the government saves before debt interest payments, to 25.5 billion reais ($7.99 billion). That amounts to about one-third of the target for the year, meaning the government needs to step up these savings to meet its annual goal.

A broadening corruption scandal at Petroleo Brasileiro SA (PETR4.SA), as Petrobras is formally known, has also weighed on the economy and President Dilma Rousseff’s popularity, weakening her ability to pass austerity measures through Congress.

“While Levy is doing what he can to plug each hole as it develops, we think that a downgrade is very likely,” said Ilan Solot, a strategist with Brown Brothers Harriman in London.

Brazil was previously expected to hang on to its investment grade but “indications based on our proprietary model is that it has moved into speculative territory,” Solot added, echoing a number of economists who have raised yellow flags about Brazil’s credit ratings.

Reflecting that angst, Brazil’s five-year credit default swaps BRGV5YUSAC=R, a measure of investor perception of the country’s credit risk, have widened more than 50 basis points so far this year to 258 basis points. That is still better than the level of over 300 points reached in March, before fears about the investment grade eased.


S&P’s “BBB-“ rating is one notch above junk status. Fitch’s “BBB” and Moody’s “Baa2” ratings are two notches above junk status.

Moody’s is widely expected by economists and investors to downgrade the country by one notch, still within the investment-grade space. Some analysts, however, fear it could assign a negative outlook to the new rating, signaling it is considering to soon label Brazilian bonds as “speculative” investment.

Mauro Leos, Moody’s senior analyst for Latin America, said the discussion about Brazil’s rating outlook will be centered on “our assessment about the authorities’ ability to stabilize negative growth and fiscal trends during 2016.”

“It is difficult to determine at present what the outlook can be,” he said in a recent interview at the Reuters’ Global Markets Forum. “At present, virtually all indicators are moving in the wrong direction. However we have to try to look past 2015.”

Despite economists’ warnings, some investors are unconvinced that Brazil is on the precipice, which means the market hasn’t fully priced in the potential loss of the investment grade. Many funds are not allowed to invest in junk-rated debt.

“I’m not working with the possibility of Brazil losing its investment grade over the next 1-1/2 years,” said Pablo Stipanicic Spyer, a director at Mirae Asset Wealth Management in Brazil, with $1.4 billion in assets under management. “The government has given Levy autonomy and he is doing his homework.”

Additional reporting by Guillermo Parra-Bernal in Sao Paulo and Lucina Otoni in Brasilia; Editing by Mary Milliken and W Simon

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