Brazil ETFs Lower After Financial Transaction Tax Removed

 |  Includes: BZF, DBBR, EWZ
by: Tom Lydon

Brazil exchange traded funds could find support as the government removed a tax on foreign investment inflows, allowing global investors to move freely in and out of Brazilian markets.

Due to a drop in foreign inflows, Brazil has removed the financial transaction tax, or "IOF," on foreign purchases of government bonds and other fixed-income instruments, report Nestor Rabello and Alonso Soto for Reuters.

"We have observed a reduction in the international liquidity coming to Brazil… We are removing the obstacles for the entry of capital," Finance Minister Guido Mantega said.

The 6% IOF tax prevented the real from quickly appreciating in what appeared as a tool in the latest so-called currency war to fend against global loose monetary policies and quantitative easing measures.

"The IOF tax was originally introduced in 2010 to coiner-balance potential inflows to Brazilian government bond markets arising from Quantitative Easing policies in the U.S., Europe, and Japan," Jan Dehn, head of research, and Gustavo Medeiros, Brazil product manager, at Ashmore Investment Management, said in a research note.

However, with the speculation that the U.S. will taper its stimulus measures, the Brazilian real, along with other emerging-market currencies, has been weakening.

"Today, with the market returning to normal and the (U.S. Federal Reserve) likely reducing its expansionist policy, we can remove this obstacle," Montega added.

The currency has depreciated from a March 8 high of 1.94 Brazilian reals to the USD to its current price of around 2.13BRL, or an 8.9% drop. The WisdomTree Brazillian Real Fund (NYSEARCA:BZF) is down 6.8% over the past three months.

"The government is getting concerned that global liquidity conditions are changing really fast and that this could push the real to a much weaker level," Marcelo Salomon, an economist at Barclays, said in a Financial Timesarticle.

While a weaker real could help the country's export industry, the government is growing concerned that a sharp depreciation could exacerbate inflation.

The benchmark Bovespa Index was down 1.8% Wednesday.

Brazil country-specific ETFs were also down Wednesday. The iShares MSCI Brazil Index Fund (NYSEARCA:EWZ) was down 1.5% during afternoon trading. The fund has declined 8.6% year-to-date. EWZ does not hedge against a depreciating real, so the weakeningcurrency has had a negative effect on the funds' overall performances.

However, investors, who are still interested in Brazil and believe the currency will continue to depreciate, could take a look at the db X-trackers MSCI Brazil Hedged Equity Fund (NYSEARCA:DBBR), which tries to mitigate exposure to fluctuations between the U.S. dollar and Brazilian real. The ETF is down 5.3% year-to-date.

Max Chen contributed to this article.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.