As the seventh-largest economy in the world, Brazil is a target destination for a number of investors looking to broaden their exposure to international markets. Brazil represents a rare opportunity for investors in that is both rich in natural resources and relatively industrialized. The blend of emerging market infrastructure build-out and industrial specialization has been the driving force that has caused investors to flock to the iShares MSCI Brazil Index ETF (NYSEMKT:EWZ).
Between October 2002 and May 2008, the iShares MSCI Brazil Index gained an eye-popping 1,500% for investors. Since then, however, it has been a bit of a struggle.
This begs the question: Is the iShares MSCI Brazil Index an ETF worth buying right now? Today I aim to answer this question.
However, before we dive right into the basics of this Brazil-focused ETF, it's worth noting that the stock market is a dynamic place with investors on both sides of a trade. Funds like the iShares MSCI Brazil Index can go up just as easily as they can go down. In short, just because I'm making a call on whether this fund is a buy or not today doesn't mean that I'll be correct, so make sure you formulate your own opinions on this fund as you read on.
A brief overview of the iShares MSCI Brazil Index
As you've astutely surmised by now, the funds' objective is to give investors exposure to Brazil's stock market through a mix of mid- and large-cap companies. With $5.45 billion in assets under management, the fund currently has 74 separate holdings in its portfolio. As you can see below, the weighting is dominated by financials, with consumer staples, energy, and materials also occupying a double-digit percentage of the pie.
Investors should note that the iShares MSCI Brazil Index's expense ratio of 0.61% ranks favorably compared to other Brazil-focused funds. Expense ratios for peer funds range between 0.59% and 0.85%. For investors in iShares MSCI Brazil Index it just means less money out of their pockets.
In terms of growth rate over the past 12 months, this fund sits around the middle of the pack. Brazil-focused sector funds, such as the Global X Brazil Consumer ETF and Global X Brazil Financials ETF, have actually delivered higher earnings growth rates. However, their lack of sector diversity makes them riskier long-term bets.
Is the iShares MSCI Brazil Index a buy?
Now to return to, and answer, the initial question: Is the iShares MSCI Brazil Index a buy?
In my opinion, right now the answer is no. Allow me to explaining my reasoning.
Although I appreciate the cash flow that Brazil's abundant natural resources bring in, as well as the fact that Brazil's government has been overly accommodative with respect to pumping money into the economy in order to stimulate growth, there are macroeconomic concerns that supersede these potentially positive catalysts.
Perhaps nothing presents more of a persistent roadblock to Brazil than its high inflation rates. It's irrelevant whether Brazil's inflation rate -- which has fluctuated between 4.12% and 7.31% since September 2007 -- is moving higher because of investment speculation or a lack of supply for goods and services. The point worth noting is that the Brazilian central bank has boosted lending rates to 11%, up from 7.25% in March 2013, in an effort to cool off lending and push inflation down. Unfortunately, the central bank's plan hasn't worked, and Brazil's annual inflation rate is up 19 basis points to 6.5% since it began hiking target interest rates by 375 basis points to 11%.
This presents two equally bad scenarios. One option is that Brazil's central bank could keep hiking rates until inflation comes under control. However, this would likely put the economy into a recession due to sky-high lending rates. The other option is to allow the government to continue injecting capital into the economy and leave lending rates near where they are. In this scenario inflation isn't likely to fall, which could make it difficult for middle-class citizens to purchase the discretionary goods and services that helped boost Brazil's economy in the first place. More importantly, it reduces the potential for these individuals to save their hard-earned cash, which would present long-term growth challenges.
Another primary concern with the Brazilian economy is the ongoing weakness -- or should I say lack of a rebound -- in a number of commodities. Iron ore, for example, is an abundant natural resource in the region. However, iron ore prices are at levels that haven't been seen in about five years. With little incentive for many miners to boost production at the moment, it doesn't look as if Brazil's economy will be getting a natural-resource bump anytime soon.
Lastly, I remain worried about a housing market bubble in Brazil. As we examined previously, some of the 200%-plus increase in home prices in Sao Paolo and Rio de Janeiro since 2008 comes from high demand and low supply -- which makes sense. However, any situation where home prices triple in a span of six years is bound to bring out speculative investors. In addition, higher lending rates run the risk of scaring away foreign investment in the sector. If the housing bubble pops, it will get pretty ugly for Brazil's economy.