Brookfield Leading the Way to Brazil

Includes: BAM, EWZ
by: Travis Johnson

With several investments in Brazil, principally the food company Sadia (SDA) and the airline Gol (NYSE:GOL), I consider the country's prospects to be significant to my portfolio's future.

So, will Lula turn Brazil back into a huge growth engine, while continuing to tame inflation and help the poor? Or will he, in trying to push additional growth, bring back the freakishly high inflation of the past and sink the Bovespa (The São Paulo Stock Exchange)? Or will he, in trying to help all the helpless of Brazil, go too far and injure the homegrown companies that have helped the country become significant on the international economic stage?

I don't know, but I hope. Lula was just sworn in for his next term, and is now considered by many to be the most successful president in Brazilian history. He's certainly still popular, though perhaps not as much so as when he was more of a populist firebrand in his earlier years in office (years that gave Wall Street the heebie jeebies, for the most part).

And while Brazil is a founding member of BRIC (or CRIB, if you prefer) - the big emerging countries that stand as the bulwarks of the developing world (Brazil, Russia, India and China) - it has certainly been, in recent years in any case, the least followed one in that group.

In the Back Row of the BRIC Class
Brazil has been the kid in the back row of the BRIC class, with much slower growth than India and China who sit up in the front and raise their hands all day long. Thankfully, it's also been growing with more integrity than Russia, which, to continue the strained metaphor, is the kid selling cigarettes by the loading dock. You know he's got tons of money and all the chicks, but you're pretty sure you'd get burned if you got involved with him, just ask your friends Belarus or Ukraine.

Really, if you consider that Brazil has grown at only 2.6% during Lula's reign in office, it seems odd to consider it to be part of this fast-growing emerging group at all. Yet the stock returns have been sometimes spectacular, and the future might be more spectacular still.

Brazil doesn't have the massive population of China that makes all fiscal daydreams seem possible, nor the huge wealth of educated and English-speaking labor of India, and they don't have quite the massive buffet of natural resources to snack at of the Russians. In some ways all they've got is what the US had 100 years ago; a growing, diversified economy based on relatively cheap labor and lots of great arable land.
They have a large population of workers that is growing in level of education and, thanks to the progressive policies of the government, slowly climbing out of poverty (or at least from really bad poverty into just plain run of the mill poverty). And that means they potentially have the second largest market in the Western Hemisphere.

Most significant for investors is that Brazil seems to be hitting a sweet spot. Lula's regime has, by most accounts, tamed inflation. Ethanol and successful offshore drilling by PetroBras (NYSE:PZE) mean that they're less subject to oil shocks than many markets. And because much of their trade is in agriculture and other natural resources, they might not be as susceptible to a dip in US, Japanese or European demand for finished goods as China, India, Taiwan or Korea should be.

Make no mistake, Brazil is still a risky place to invest, and my investments there are primarily domestic in nature. It remains to be seen whether it can become an important player in multiple industries the way China has. It seems that Brazil does have, at least, a population that is slowly becoming better off, a good handle on inflation, and political stability. That's certainly something, and if they just continue on the path to development, there will be plenty of money to be made even if they don't catch fire in quite the way their more popular (or notorious) BRIC brethren have of late.

In addition to my investments in Brazilian agriculture and airlines, which depend primarily on a building domestic and regional market, I'm intrigued by Lula's promise - as a way to help spur some growth - to liberalize financial markets and make investment in Brazil easier. This brings to mind a few companies that might benefit.

The first ones that come to mind with that environment are the banks, of which Brazil has two biggies that are traded in the US: Banco Bradesco (NYSE:BBD) and Banco Itau (ITU), both of which have been awfully successful (though BBD has a bumpier chart than ITU). I don't know a lot about those companies, but I'm not terribly interested in investing in a bank at this point.

Brookfield in Brazil
Second is the investment banking business. The investment houses all have interest in Brazil too, of course, including Goldman Sachs (NYSE:GS) and all their Wall Street brethren, but the one that stands out for me in Brazil is a Canadian company, Brookfield. Brookfield Asset Management (NYSE:BAM), which I looked at for a few minutes when I was pondering the next Berkshire Hathaway, has a surprisingly high and growing level of involvement in Brazil (and has had for most of its history), which intrigues me.

They recently made an IPO for a homebuilding business on the Brazilian exchange, which - if financial markets and mortgages are going to be liberalized - might be one of the more prescient moves of late. They also have a growing interest in Brazilian commercial real estate. It really feels to me at times as though Brookfield is becoming the Macquarie bank of the Western Hemisphere. If so, that would be fine indeed for BAM investors.

I don't know if I'm ready to become more exposed to Brazil than I already am. I think it's unlikely that I'll invest in another Brazilian company at this point, but the more I've looked at Brookfield in the past few months, the more I like it. I just wish the valuation was a bit lower, but perhaps I shouldn't get hung up on things like reported earnings when the company has such a vast portfolio of assets, including some juicy ones in Brazil.

Full disclosure: I own shares of Sadia and Gol as of this writing, and LEAP options on Goldman Sachs. I don't own any other companies or investments mentioned.

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Editor's note: iShares MSCI Brazil Index ETF (NYSEARCA:EWZ) covers the Brazilian market.