Korean investors turn to Brazil’s sovereign bonds as political insecurity eases

The Brazilian currency real [Photo by Bloomberg]

South Korean investors are returning to invest in Brazil’s sovereign bonds that offer higher annual yields of over 10 percent as long-standing issues related to political insecurity ease.

According to financial industry sources on Sunday, the combined sales of Brazil’s sovereign bonds at five major securities firms in Korea reached 703.2 billion won ($534.7 million) in the first five months of the year.

The annual interest rate on Brazil’s 10-year government bonds hovers above 10 percent, which is three times higher than that of Korea. The tax exemption for the interest income of the Brazil bonds in accordance with international tax agreements also make them popular among wealthy investors.

With an anticipated rate cut later this year, bond prices are also expected to rise. Brazil’s three-year government bond yield has been on a downward curve, currently standing at 10.45 percent after reaching a peak at 13.8 percent in December.

The Brazilian central bank has kept its benchmark interest rate at 13.75 percent for 10 months since August last year. However, market interest rates are already on a downward trend following speculations that the central bank will cut rates in the second half of the year as high interest rates have slowed recent economic growth.

“Although the Brazilian central bank maintained the benchmark rate at 13.75 percent in June, their statement emphasized a dovish stance following last month, excluding comments on resuming interest rate hikes,” said Jeon Byung-ha, an analyst at NH Investment and Securities Co. “A gradual cycle of interest rate cuts is expected starting from August,” Jeon added.

Park Seung-jin, an analyst at Hana Securities Co., also commented on the anticipated policy rate changes.

“In May, the U.S. 10-year treasury rate increased by about 25 basis points, Brazil’s 10-year government bond rate fell by 69.5 basis points due to the prospect of a change in the rate policy of the Brazilian central bank,” Park said.

“While expectations for exchange rate gains between the Korean won and the Brazilian real will have to be lowered due to the heightened volatility of the won, investors may still want to maintain a positive outlook on Brazilian government bonds, considering the prospect of a policy rate cut in the second half of the year,” the analyst added.

Another positive element that adds to the long positions on Brazilian sovereign bonds was S&P Global Inc. that upgraded Brazil’s credit rating outlook to “positive” from “stable,” citing President Luiz Inacio Lula da Silva‘s fiscal reforms.

However, experts warn that investors should be cautious as the profitability of Brazilian bonds can vary depending on the movement of the Brazilian real exchange rate.

The Brazilian real to Korean won fell to 270.02 won on June 28 from 240.8 won at the beginning of this year, indicating that bond investors would have also gained from exchange rate differences.

However, due to the high volatility of the Brazilian real, there is also a risk of losses in the future if the currency depreciates.