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BL: Pimco's Brazil Bet Fizzles as Real Plunge Erodes Returns on Domestic Debt

By Gabrielle Coppola and Ye Xie - May 25, 2010

Pacific Investment Management Co.’s bet on Brazilian local bonds is backfiring.

The securities, called a “great value” in February by Michael Gomez, the firm’s co-head of developing markets, are down 1 percent in dollar terms, trailing the 1.3 percent gain in emerging-nation domestic debt, according to JPMorgan Chase & Co.’s GBI-EM index. A 7 percent tumble in the real since May 1, sparked by Europe’s debt crisis, fueled a 5.5 percent plunge in local bonds this month.

Brazilian fixed-rate domestic notes due 2017 were the biggest holding in Pimco’s Developing Local Markets Fund, according to Bloomberg data through the end of 2009. Pimco, manager of the world’s biggest bond fund, is a “consistent” buyer of Brazilian debt, Gomez said in a February interview. The $2.9-billion fund lost 1.9 percent this year, lagging behind 97 percent of its peers, according to data compiled by Bloomberg.

“Brazil has traded poorly,” said Paolo Valle, a money manager at Federated Investment Management Co. in Pittsburgh, which oversees more than $1 billion of developing-nation bonds. “In a correction of risky assets, investors prefer unwinding some of their positions.”

Still Bullish

Pimco remains bullish because Latin America’s biggest country is well-positioned to shore up its economy should the rout in financial markets crimp the global recovery, Gomez told Bloomberg Television on May 21. The Brazilian 2017 security was also the second-biggest investment in the Newport Beach, California-based firm’s $3.2 billion Emerging Local Bond Fund, which has gained 2.1 percent this year, topping 62 percent of peers, Bloomberg data show.

The central bank’s 9.5 percent benchmark lending rate, the second-highest among the world’s 20 richest economies, gives policy makers “plenty of room to move towards a more accommodative policy stance,” Gomez said. Brazil is “an area where you can be defensive and have positive total returns if you get a double-dip in global growth,” he said.

Policy makers raised the benchmark rate 75 basis points, or 0.75 percentage point, last month to curb inflation as the economic expansion quickens. Gross domestic product will grow 6.5 percent this year, the fastest pace since 1986, according to a central bank survey published yesterday.

Neither Gomez nor Mark Porterfield, a spokesman for Pimco, returned e-mails and telephone messages seeking comment.

Real Falls

The real dropped 0.9 percent yesterday to 1.8704 after breaching the 1.9 per dollar level on May 21, heading for the biggest drop since October 2008, amid concern European leaders will fail to contain the region’s debt crisis.

The extra yield investors demand to own Brazilian dollar bonds instead of U.S. Treasuries fell five basis points yesterday and has swelled 50 this month to 246, within two basis points of a three-month high reached May 6, according to JPMorgan.

The cost of credit-default swaps to protect against a default for five years fell two basis points yesterday to 146 basis points, up from 123 at the beginning of May, according to data compiled by CMA DataVision. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

The yield on Brazil’s interest-rate futures contract due in January dropped 20 basis points this month, including one basis point yesterday, to 10.92 percent.

‘Risk Aversion’

“This month has been such a profound risk-aversion month, that has definitely led to contagion in the Brazil local rates market,” said Edwin Gutierrez, who helps manage $5 billion in emerging market-debt at Aberdeen Management Plc in London and is maintaining his long-term holdings. “Brazil doesn’t operate in a vacuum, so you have to take these things into consideration.”

The local bonds outperformed last year, soaring 52 percent as a rebound in demand for the country’s commodity exports helped fuel a 33 percent rally in the real, the world’s best- performing major currency, according to the GBI-EM index. Emerging-market debt climbed 22 percent.

Pimco’s Developing Local Markets Fund returned 21 percent in 2009 while the Emerging Local Bond Fund gained 29 percent. Both funds trailed more than 60 percent of peers, according to Bloomberg data.

Falling Yields

The average yield on Brazilian real bonds has declined nine basis points this month to 12.1 percent, according to JPMorgan’s GBI-EM Index. The country’s dollar bonds have risen one basis point over that time to 5.83 percent, according to JPMorgan’s EMBI+ index.

Pimco’s Developing Local Markets Fund held 4.4 percent of its assets as of December 2009 in real-denominated bonds maturing in January 2017. The Emerging Local Bond Fund had 6.9 percent of its money in those securities, according to Bloomberg data. Yields on the bonds declined 81 basis points this year to 12.5 percent.

“Long-term money managers continue to like Brazil,” said Federated’s Valle, who is maintaining his position in local government debt on a bet economic growth will lure international investors. In the short term, “investors are just acting before asking questions” to reduce risk, he said.

To contact the reporters on this story: Gabrielle Coppola in New York at [e-mail] Ye Xie in New York at [e-mail];


http://preview.bloomberg.com/news/2010-05-25/pimco-s-brazil-bet-fizzles-as-real-plunge-erodes-returns-on-domestic-debt.html