Sunday, 3 June 2012

Brazil ETFs, The Best of the Emerging Markets?

Brazilian stocks have been in free fall in the last 3 months with ishares MSCI Brazil (IBZL.L) ETF falling more than 25% from a high of 3565 at the begining of March to a close of 2631 on June 1st.


Does this represent a good buying opportunity?

The ishare MSCI Brazil fund has a total expense ratio of 0.74% a year which seems to be typical with most international ETFs (you can probably find cheaper alternatives if you wish). Using the same approach we used for our analysis of China we get the following data:


Dividend Yield

The ishares MSCI Brazil fund has an impressive distribution yield of 3.79%, giving it a gross dividend yield of 4.53%. The dividend has also risen by over 30% in the last 2 years from $1.19 a share to almost $1.56 a share for the last 12 months.


Growth Rate

Using data from IMF WEO April 2012 we get a fairly low real growth forecasts of 3.0% for 2012 and 4.1% for 2013 giving an average of 3.55% a year. Again as a margin of safety we will use 50% of the IMF estimate as our long term real growth rate giving 1.77%. Remember this is a real growth rate so we will add our inflation expectations of 2.5% a year to convert it to a nominal growth rate. This gives us 4.27% a year. A fairly modest growth rate for an emerging economy I think you'll agree.


Adjustment Rate

As Brazil has a gross dividend yield above 4.5% we don't need to use an adjustment rate for this ETF.


The Verdict

The total expected annual return will be the dividend plus the growth rate plus the adjustment rate and minus the total expense ratio.

4.53% + 4.27% - 0.74% = 8.06%
A very attractive return in my opinion given the low growth rates used in the forecast.

What about technical analysis? It's true that Brazil is a very big country but it doesn't have the same economic importance as China. Therefore using technical analysis is a bit more important here. Let's look at the chart:

Well it's a pretty sorry looking story at the moment. Pretty much straight down since the beginning of March. Could it fall further? Looking at a longer term chart we get:

During the financial crisis of 2008 it dropped to 1300 a share which is 50% below today's price. However since then the dividend has increased by 57% so the downside is probably not that dramatic. On the upside prices above 4000 a share have been seen, again this was when the dividend was more than 25% below today's level. (Note: I use a logarithmic scale on my charts).

So there is potentially more downside action but the upside looks attractive too. At 4000 it would represent a capital gain of over 50% with an attractive dividend yield in the meantime. If you want some exposure to emerging markets then you could do a lot worse than Brazil but it shouldn't make up a major part of your total portfolio. The risks and volatility with emerging markets are high but the rewards can also be too.

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