For the last two weeks, Brazil's main cities have been wracked by Carnival preparations and growing protests against the World Cup, which is set to start in June. The public disapproval adds uncertainty to an already fraught preparation: Six workers have died, five stadiums may not be ready for the Cup, and construction is hundreds of millions over budget.
On the macroeconomic front, massive overruns aren't helping the anemic growth rate -- expected to increase to 2.5% in 2014 from 2.3% in 2013 -- or creeping inflation. As an investor, should you sit this match out or search for some standout companies?
Stay away from a broad index
Brazilian companies and the broader economy were investor favorites from 2009 to 2011, when record amounts of foreign capital poured into the country. Investors started to look elsewhere once Brazil failed to reproduce 2010's 7.5% growth rate, and capital outflow has intensified as Brazil has stayed below a 3% growth rate. Unsurprisingly, many companies' balance sheets reflect the broader floundering growth rate, and the iShares MSCI Brazil Capped (NYSEMKT:EWZ) ETF's price and underlying value keep declining. Sure, at $41 you can buy the ETF for a steal compared to its $79 price tag of three years ago, but the index is still heavily invested in stalled companies like Petroleo Brasileiro (NYSE:PBR), or Petrobras, that are unlikely to turn around anytime soon.
Oil production looks a bit like stadium construction
Foreign investors bid up shares of parastatal oil company Petrobras in 2009 on the hopes of vast offshore finds and a stable domestic market. Petrobras shares have lost a stomach-churning 75% of their value since then. Below-market domestic prices, currency problems, and project delays paired with budget overruns have produced quite the value trap. Petrobras is selling at a rock-bottom price-to-earnings ratio of six and a serious discount of less than half of its book value. There are good reasons: The company's profit fell 19% in the fourth quarter of 2013, continuing a downward trend, and debt increased by 50% in 2013. Additionally, under government pressure, it will continue to sell its domestic products below market price for the foreseeable future.
Gamble with Ambev
AmBev (NYSE:ABEV), which merged with Companhia de Bebidas das Americas in November, may be your best bet for profiting from the World Cup. The company forecast a difficult 2013 -- with rising prices, declining currency, and other challenges -- but still managed to improve numbers across the board. AmBev reported fiscal-year 2013 results on Feb. 26, including a 6.4% increase in net profit and a 10.5% increase in earnings before interest, taxes, depreciation, and amortization. Volumes dropped 1.4%, but revenue per hectoliter increased 11.5%.
Looking forward, AmBev may benefit from the World Cup more than any other publicly traded Brazilian company. The company is the official Cup beer sponsor. The games push beer purchases up by hundreds of millions, and Ambev holds most of the beer market in soccer-loving countries across the Americas.
Still, AmBev is not a sure bet. The company operates on the Brazilian real but makes many purchases in dollars, and the real has had several difficult years. American investors should note that dividends are declared in reals but received in most trading accounts as dollars, so a low exchange rate eats into dividend returns.
Additionally, AmBev carries a price-to-earnings ratio of 22 and a price-to-book value of 3.7 -- a tad pricey for a beverage company growing in the single digits and operating in lackluster markets.
Should you root for this economic underdog?
To summarize, the approaching World Cup resembles Brazil's broader economic struggles: The government hasn't delivered on its promises, and its future is very uncertain. Investors have pulled billions out of Brazil in the past few years -- should you risk jumping in? The market holds many value traps like Petrobras, but adventurous investors should consider the remaining well-managed companies like AmBev.