By Paul Kilby
NEW YORK, Sept 11 (IFR) - Pessimism about Brazil deepened this week after Standard & Poor's downgraded both the sovereign and Petrobras to junk status, reigniting fears of forced selling in a country sinking fast into high-yield territory.
The other agencies are expected to follow suit soon, further clouding the picture for Brazil, which is undergoing its worst economic crisis in decades.
"We shouldn't underestimate the follow-up impact we could see when Fitch or Moody's converge with S&P," said Patrick Esteruelas, a sovereign analyst at Emso.
"(It) will induce some additional forced selling as the sovereign and corporates drop out of the investment-grade indices."
S&P dropped Brazil to BB+ from BBB-, citing a "lack of cohesion" in President Dilma Rousseff's cabinet and the uncertainty surrounding the Petrobras corruption scandal.
Analysts now expect Moody's to drop the outlook on its Baa3 Brazil rating to negative and then downgrade the sovereign to Ba1 early next year.
The more conservative Fitch still rates Brazil at BBB, but is expected to downgrade it this year to BBB-, with a negative outlook.
JP Morgan estimated last month that Brazil's full downgrade to junk would result in about US$6.2bn in forced selling among investors who hold US$32.2bn of hard-currency sovereign bonds.
That doesn't include the up to US$14bn of outflows likely to occur among Brazilian corporate debt holders, the bank said.
TECTONIC SHIFT
About US$80bn in Brazilian corporate debt could ultimately be cut to junk - at least partially - as agencies take the sovereign lower, said Anne Milne, managing director for emerging markets corporate research at Bank of America Merrill Lynch.
Such a move would rebalance the country's corporate credit profile, qualifying 85% of such debt as high-yield versus just 15% fully eligible as investment-grade, she said.
With Brazilian corporates being some of the most prolific issuers in recent years, downgrades would also dramatically shift the composition of Latin American corporate debt overall.
The shift would increase the percentage of credits with junk ratings to 60% versus 47% today, Milne said.
Petrobras, the state oil entity, is already in the line of fire after S&P followed the example of Moody's and cut it to junk as well.
Now stuck with two sub-investment-grade ratings, the heavily indebted company is likely to be disqualified from many indices that require two high-grade ratings.
Barclays has already named Petrobras as one of several Brazilian credits likely to be dropped from its Global and US Aggregate Indices.