(L to R): James Syme, Paul Wimborne and Ada Chan
September and October are often monumental months in global markets and economics: for example the Asian economic crisis of late 1997 and the GFC in 2008.
This year’s start to Spring may not be quite as pivotal, but we’ve nevertheless seen unexpected and drastic changes in Brazil and China.
Brazil
Brazil’s composite Purchasing Managers Index — a measure of manufacturing industry health — was 56 in July and 52.9 in August.
A PMI above 50 indicates expansion, while below 50 indicates contraction.
Yearly retail sales were broadly up 7.2% in July.
We’ve also seen strong returns from Brazilian equities in local currency terms. The local Bovespa stock index hit a record high at the end of August.
This economic strength has not come with much inflationary pressure.
Inflation was 4.2% in the year to August (according to the local IPCA consumer price index). This
compared with 4.6% at the end of 2023 and 3.7% in the year to April 2024.
The Brazilian Central Bank (BCB), has responded by moving into a more hawkish monetary stance, lifting the benchmark interest rate by 25 basis points to 10.75% in September.
This move reflects waning confidence that inflation will decline to its 3% target.
Meanwhile, the US interest rate outlook has shifted in recent months, with a sharp decline in expected future interest rates and a 0.5% cut in the US policy interest rate in September.
This has eased pressure on emerging market economies and their currencies.
Together, these developments have further enhanced our enthusiasm for Brazilian equities.
Brazil is performing better than expected, but the weakness in the currency has offset this zeal for international investors.
We believe the central bank raising rates will not significantly worsen the outlook for local equities. Instead it should substantially improve the outlook for the currency (as does the US cutting interest rates).
We continue to believe Brazil equities can deliver strong USD returns.
But we now expect a larger share of that to come from the currency relative to the local equity market.
China
China’s Politburo convened in September outside its typical April-July-December timetable.
A resulting policy statement delivered a dramatic surprise for markets.
The Politburo underlined a critical shift in priorities, including “stopping the decline in housing” and “increasing lending to white-listed projects”.
There was also a Quantitative Easing-like target to “ensure necessary fiscal expenditures” through ultra-long special sovereign bonds and local government special bonds.
The People’s Bank of China had previously announced a number of monetary policies including cuts in official interest rate cuts, bank cash reserve requirements and the outstanding mortgage rate.
The bank also announced RMB 800 billion of support for the stock market.
Crucially, alongside these measures, the Politburo provided subtle updates to its monetary policy language, replacing the word “prudent” with “forceful”, indicating the direction of cuts in policy interest rates.
The market reaction was visceral.
Hong Kong-listed Chinese stocks rose 26% in six trading days on the Hang Seng China Enterprises Index. The Shanghai Composite Index rose 21.9% in the same period.
Consumer and property names (including the bulk of Chinese holdings in our portfolio) led the rise, including eight names that rose more than 40% between September 23 and October 2.
During a grinding slowdown in the Chinese economy since 2020, there have been previous policy-driven market spikes (including October 2022 and January 2024).
The magnitude of these recent occurrences aligns with previous episodes, but are moving at a faster clip.
What matters now is whether the new policies reverse current economic trends.
Our process involves paying close attention to emerging economic data, precisely because of turning points such as this.
Even amid these movements, we consider China’s low inflation, large trade and current account surpluses, earnings growth in parts of the equity market, and attractive equity valuations as reasons to maintain holdings in Chinese equities.
We have been overweight China since April 2024, have been rewarded for that stance in recent weeks, and continue to be on the look-out for opportunities in China.
