Debt Funds Refuse New Investors as Returns Tighten in Brazil
(Bloomberg) -- Some of Brazil’s biggest fund managers are taking a step back from the country’s booming market for local corporate debt.
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Part of the caution comes from the fact the central bank just began raising interest rates — an outlier, hiking just hours after the Federal Reserve cut borrowing costs in the US. The tighter conditions for borrowers add worry to what traders see as a massive compression of spreads, making the assets far less appealing, especially for higher-quality borrowers investors are crowding in to.
The spread is already so low that Alexandre Muller, a credit portfolio manager at JGP Asset Management, has stopped raising money for 95% of his credit funds.
“We closed the funds to preserve the quality of our invested portfolios, avoiding a dilution of spreads due to too much cash or new issuances with very low premiums,” Muller, said in an interview. JGP has 35 billion reais ($6.4 billion) under management.
Yields on Brazil’s local currency corporate bonds have fallen by almost a third in just over a year to an average 170 basis points over the interbank interest rate, known as DI. That’s down 80 points since August 2023, according to data from JGP. Spreads on AAA-rated debt slumped about 70 basis points to 80 points over the same period, separate data from Sparta Fundo de Investimentos show.
The higher costs abroad and newfound appetite for local debt at longer maturities have boosted the appeal of sales at home, where double-digit interest rates keep investors focused on fixed-income products. Brazilian companies issued a record 207 billion reais ($36.8 billion) of local bonds in the first half of the year. That’s up 164% from the year earlier. Hard-currency corporate bond sales, meanwhile, came in at around $10 billion for the same period, according to data compiled by Bloomberg.
“The Brazilian capital market has recently seen a surge in the debt issuance volume caused by a change in the dynamics of the market and high interest rates,” said Conor Hennebry, global head of Corporate Debt at Santander CIB. “The weak equity market lost traction and caused inflows to the debt market. This shift, along with the high liquidity from dedicated funds and investors, allowed spreads to compress.”
While it’s grown exponentially in size in the past few years — the stock of local currency corporate bonds, known as debentures, is around $200 billion, almost double the $106 billion for hard-currency notes — Brazil’s local debt market remains dominated by local players, with a large part of the trades happening over-the-counter.
‘Unique’
For Sergey Dergachev, head of emerging-market corporate debt at Union Investment Privatfonds GmbH in Frankfurt, it’s part of the dynamic of local corporate debt in emerging markets broadly.
“It’s a very unique asset class,” he said. “It’s around 3.5 times bigger in market cap than hard currency EM corporate debt, but foreign investor presence is almost negligible due to different bankruptcy laws, different tax treatment vs. local EM sovereign debt and different liquidity situation as well as settlement procedures.”
Among the locals, JGP isn’t alone in stepping back. SulAmerica Investimentos is also closing some corporate debt funds and limiting fund-raising for others as spreads narrow, said CEO Marcelo Mello. SulAmerica is the asset management arm of one of Brazil’s largest insurance companies, and has around 76 billion reais under management.
“We think there will be a repricing, so we have a more defensive strategy” with increased cash positions, Mello said. “Spreads are very thin, so there will be no more demand. An adjustment may be healthy.”
High-grade only
Investors are crowding into the few high-grade names available, as the high-yield debt market remains bruised following the accounting fraud scandal and subsequent default at the retailer Americanas SA in early 2023.
“Our strategy for the coming months will be based on a main pillar: high selectivity in the choice of assets,” Sparta said in a monthly statement that cited the compressed spreads. The firm, which oversees about 15 billion reais, plans to maintain “a higher cash level and shorten the duration of the portfolio.”
Structured products, such as securitized debt instruments, are also luring investors scouring for higher returns. Others are looking for new names and expanding areas of coverage.
But the boom has also led to the emergence of pockets of trouble, such as rising defaults in the agribusiness sector. Fiagros, investment funds backed by agricultural receivables, have been stung by growers going bankrupt at alarming rates as corn and soybean prices tumbled.
“Fund managers today are thirsting for assets, but I don’t want to be pressured to allocate for the sake of allocating,” said Vivian Lee, Co-Chief Investment Officer and head of credit at Ibiuna Investimentos, which oversees about 19.5 billion reais. When debt sales are booming, “you need to have the discipline to stay as a spectator” if spreads fall too low, she said.
--With assistance from Cristiane Lucchesi and Andras Gergely.
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