Brazil’s Central Bank wasted no time in taking proactive measures this week, stepping into the foreign exchange markets in an effort to slow the US$’s recent slide against the Real and further bolster the country’s lucrative export sector. By carefully managing the rise of the Brazilian Real (through the auctioning of reverse currency swaps worth an estimated $500 million), the newly appointed economic team in Brazil have taken decisive action to preserve the country’s status as one of the world’s most attractive sources of commodities in this time of uncertainty for global financial markets.

The Brazilian Real has strengthened more than 20% against the US$ this year, reaching 3.19 to the dollar last Thursday June 30th – its strongest level in 11 months and the largest monthly gain for the currency in over 13 years. The Real is in fact the best currency performer so far in 2016. This is a sign of budding optimism in Latin America’s largest economy as business confidence – a significant indicator for investment prospects – surges to its highest level since 2014.

The Rise of the Brazilian Real

(BRL/USD)

Source: Trading Economics (2016)

The recent rise of the Real has been driven by a number of factors. Firstly, we are seeing a weakening of the US$ alongside a gradual increase in commodity prices across the board.  There is also an expanding interest rate differential between Brazil and the rest of the world. Brazil’s Central Bank is keeping interest rates high at 14.25% and the country’s 10-year government bonds are yielding more than 11% (compared with 1.44% for the US and -0.25% for Japan). Economists in Brazil have also reduced their 2016 inflation forecast as they expect a stronger currency in the years to come. Consumer prices are forecast to rise by 7.27% this year down from 9.32%, according to a Central Bank statement published earlier this week. High interest rates and easing inflation are widely recognized as two positive factors for any global currency.

Concerned that the dramatic strengthening of the Real could threaten the gains achieved by Brazil’s lucrative export sector over the last decade, the Brazilian Central Bank has taken immediate action to manage the currency’s rise. Brazil registered its biggest trade surplus on record in the first half of 2016 as export sectors, especially agriculture, showed impressive growth in 2015. This is in part due to the 30% decline of the Brazilian Real against the dollar last year that boosted exports and more than made up for the decline in commodity prices. As a result, Brazil is now generating substantial foreign currency reserves and reducing its current account deficit.

The value of Brazilian assets have been pushed up this year on positive forecasts that the new government will lead the way for measures that drive the country’s economic performance. A more stable environment, the steady rise in global commodity prices and sounder economic policies at home have undeniably increased opportunity and reduced risk in Brazil. These prospects have prompted asset managers around the world to place major bets that the country’s economy is on the verge of significant outperformance.