10 Cheap Brazilian Blue Chips

by: Investment Underground

By Nico Gayle, Lead Editor

We often hear the call to buy "high quality" -- which doesn't have to mean just high quality US equities. With emerging markets booming, investors and corporations are increasingly turning to countries like Brazil to fuel profits.

Although emerging markets carry plenty of risk, we think Brazil is especially primed for continued growth. As discussed in the stocks below, the country has great natural resources that should keep it among the important players in the world economy. Furthermore, with the world’s eyes on the 2014 World Cup and 2016 Olympics being hosted in Brazil, we think the country will have a steady inflow of foreign investment over the next decade.

Investments in foreign countries like Brazil are significantly influenced by exchange rates, so as always, it is important to do your own due diligence. Nonetheless, here are a few Brazilian stocks super investors George Soros, Jeremy Grantham, Lee Ainslie, Mario Gabelli and Kenneth Fisher like right now. We've added a few we like to the list as well.

Petrobras (NYSE:PBR) is the partially state-owned oil giant of Brazil, with a market cap of $259.2B. Although investors often shy away from state-owned companies, Petrobras seems to receive benefits from this status, acting as a near monopoly in the Brazilian oil industry. In the past few years, the company has discovered several huge oil megafields off the Brazilian coast, bringing its reserves near the top of the global oil industry and setting Brazil up to become a major world oil producer.

Considering its expertise in offshore drilling, we believe that its enormous $224 billion investment plan in these fields will pay off. With oil prices on the rise and the Middle East becoming less and less stable, Petrobras could see a huge rise in revenue. Finally, Petrobras’ growing presence could be huge for the rest of Brazil: The company’s rising profits, much of which belong to the government, should help protect the country from rising oil prices like those that helped cause the Latin American debt crisis of the '90s.

Petrobras also presents a good set of fundamentals and Soros is a buyer. The stock is trading at a P/E of 9.6, which is lower than the industry average. The company’s most recent quarter was its most profitable ever, with net income rising 38%. With outstanding ROE and profit margins, the company is efficient and has a good current ratio of 1.76. PBR also offers a small dividend yield of 0.39%. We think shares are approaching our fair value estimate of $45. But overall, we think that the stock has ideal fundamental and qualitative factors that will make it a winner over the long-term.

Vale (NYSE:VALE) is a metals and mining company, ranking as the world’s biggest iron ore producer and second biggest nickel producer. It produces several other metals as well, and has a market cap of $172.3B. Privatized in 1997, the firm exports a large amount of its products to China, which is quickly becoming the largest market for both nickel and iron. The stock trades at a P/E of 10.3, below the industry average. Furthermore, average analyst estimates for 2011 EPS are $4.96, a huge rise from 2010 EPS of 3.23. The rest of VALE’s fundamentals are also strong, with a top-notch operating margin of 47% and ROE of 27%. The stock pays a dividend yield of 1.3%. Grantham picked up shares during the most recent reporting period. With strong fundamentals, low valuation, and huge growth opportunities, VALE appears to be a Brazilian keeper.

Companhia de Bebidas das Americas (ABV): Another Grantham favorite, known as AmBev, this Brazilian alcoholic beverage producer has a market cap of $55.7B and is one of the largest brewers in the world. AmBev is a subsidiary of Anheuser-Busch InBev, and sells beer and PepsiCo products throughout Latin America. In addition to its Brazilian breweries, it owns Quinsa, the largest brewer in Argentina. There is no doubt that the booze will be flowing during the World Cup and Olympics in Brazil, and tourists will surely be interested in trying local brews. Although these are only temporary profits, this extra cash will make the firm more financially healthy, allowing it to expand more easily.

As the largest beer producer in Brazil, AmBev should also benefit from a growing middle class that could come with Brazil’s continued economic development. Finally, the firm has plans to invest $1.5 billion to increase capacity, helping it take advantage of increasing demand. Over the past year, AmBev had a ROE of 28.78%, which is very strong compared to its competitors in the industry. ABV is trading at a 19.44 P/E ratio and offers a 1.91% dividend yield.

Itau Unibanco (NYSE:ITUB): Ainslie recently added a position in ITUB at the average price of $24.38. Known as the largest non-government-owned bank in Latin America, ITUB was formed through the merger of Itau and Unibanco. Based in Brazil, it has operations in other Latin American countries as well. ITUB has performed extremely well of late. With ROE of 24%, non-performing loans were down at the end of 2010. Because of its strong presence in Brazil, we think that ITUB is well positioned for growth throughout Latin America. Analysts expect EPS to grow significantly in the next two years. Currently, ITUB is trading at a 10.0 P/E, and is offering a 0.4% dividend. ITUB has a market cap of $101B.

Gol Linhas Aereas Inteligentes (NYSE:GOL): The Brazilian airliner, with a market cap of $3.6B, just became the leading carrier in Brazil. As part of hosting the World Cup and Olympics, Brazil will spend billions on new transportation infrastructure, upgrading the facilities that GOL has to work with. This is a huge benefit for GOL that will last long beyond the end of these events. Obviously, GOL will also benefit from the increased tourism for the events, especially the World Cup, which will be held in cities throughout the country. Finally, the airline is moving towards a fleet of all Boeing 737’s, a move that has effectively reduced costs for other discount airliners like RyanAir (NASDAQ:RYAAY). GOL has already shown itself to be an efficient airline, with an operating margin of 10%, and ROE of 7.73%. While the firm’s P/E is on the high end at 27.96, we think that this is a leading company in a market with tons of upcoming growth. Investing guru John Hussman bought 17,500 shares recently.

Banco Bradesco (NYSE:BBD): Bradesco, the third-largest bank in Brazil, has a market cap of $72B. The bank’s two businesses, the financial segment and insurance segment, account for nearly equal amounts of overall profit. BBD has been one of Brazil’s strongest banks, with Tier 1 capital ratio over 13% and debt/equity of .6. Company ROE was over 20% in 2010, and the firm’s EPS have been increasing over the last couple of years. Although its P/E of 12.69 is slightly higher than ITUB’s, its price/book of 2.7 is lower than ITUB’s of 3. Finally, the firm offers a dividend yield of 0.51%. Guru Kenneth Fisher is a buyer at the average price of $20.77 per share.

Banco Santander Brasil (NYSE:BSBR): The last of the banks on the list, BSBR is different form the first two. BSBR is the smallest of the main Brazilian banks, with a market cap of $45B, and is the Brazilian unit of the Spanish banking giant Grupo Santander (STD). The unit’s net income doubled in 2010, and is now the most profitable unit in Grupo Santander, contributing around 25% of the group’s total profit.

We think that BSBR receives several benefits from the resources and reputation of its parent company. First, with STD’s home economy struggling, the group is committed to expanding in the high growth market of Brazil. BSBR has important financial backing from STD, which is among the largest and strongest banks around. Second, the firm benefits from STD’s global presence. Not only does this presence allow customers to access resources throughout Latin America, but we also think it can help attract foreign capital due to the familiar name. Although BSBR’s operating margin was near the top of the industry in 2010, its ROE was a modest 6%. Nonetheless, the valuation is also attractive: BSBR’s price/book of 1 is far below its Brazilian competitors, and it also offers a hefty dividend yield of 6.33%. In the end, we think the valuation, along with the powerful Santander backing, make BSBR a good investment in the Brazilian market.

Companhia Energetica de Minas Gerais (NYSE:CIG): Also known as CEMIG, the state-controlled firm is the largest electric company in Brazil. CIG has a market cap of $12.2B and engages in the generation, transmission and distribution of electricity. The company also engages in natural gas distribution and other energy services. Almost all of its electricity comes from hydroelectric power, making its costs mostly independent of the rising price of oil. Electricity demand in Brazil has been on the rise, and should continue increasing as the economy grows. Although 2010 net income increased by only 5.81% from 2009, CEMIG sold 9% more electricity. With big expansion plans in place, we think CIG will become more able to keep up with Brazil’s growing demand, increasing margins so that they can increase profits by more than they did in 2010. Currently, CIG is trading at a 9.39 P/E ratio and offers a 2% dividend yield. Fisher has been adding shares at the average price of $15.42.

iShares MSCI Brazil Index (NYSEARCA:EWZ): This ETF is a broader play on Brazil. Investing in equities, the fund attempts to mimic the MSCI Brazil Index. EWZ’s portfolio is weighted most heavily toward large companies, mainly in commodities. Its performance will be heavily influenced by exchange rates, as well as commodity prices. Top holdings include many of the stocks mentioned in this article, with Petrobras, Vale, Itau-Unibanco, Bradesco and AmBev as the top five holdings. Potential investors should pay special attention to these stocks; they account for a huge portion of the portfolio, with Petrobras and Vale alone accounting for over 35% of the total fund. As discussed above, we think these are all good stocks, and as Brazil continues to grow, we think EWZ could be a good investment for those looking for a slightly broader entry into the country.

Vivo (NYSE:VIV): Vivo is the largest cell phone carrier in Brazil, with 29.55% of the country’s subscribers, and has a market cap of $15.2B. Spain’s Telefonica (NYSE:TEF) now controls it, after TEF bought out Portugal Telecom’s stake in 2010. Vivo should benefit from Telefonica’s presence, especially as they integrate with Telefonica’s other services throughout Latin America. In fact, VIV is in the midst of an announced merger with Telesp (NYSE:TSP), Telefonica’s Brazilian landline unit. The merger should provide substantial synergies for both companies. Under the agreement, each Vivo share will be exchanged for 1.55 Telesp shares, meaning that an investment in VIV is really an investment in TSP as well.

With the current stock prices hovering right around this pre-determined exchange rate, it is worth keeping an eye on both stocks. Subscriber growth in 2010 was at 17% for Vivo, even higher than the 2009 growth of 15%. This is indicative of the strong growth in the Brazilian market. Additionally, Vivo has exceptional customer satisfaction ratings, and is ahead of its competition in 3G operations. With a low debt/equity of .32, VIV had an operating margin of 16.85% and ROE of over 18% in 2010. EPS has grown exceptionally the last few years, and analysts project more growth in the near future. Vivo is currently trading at a P/E of 13.4, and at an incredibly low PEG of .2 according to Morningstar. Overall, we think this is a great investment due to the low valuation, Brazil’s growing market, and Vivo’s competitive advantages. Mario Gabelli added shares at the average price of $25.82 per share.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.