The end game in Brazil

May 11, 2016

The headlines surrounding Brazil could not be worse, but the currency performance continues to defy gravity. Year to date, it has outperformed even the yen and over the past week, it’s 2% firmer vs. the dollar, whereas pretty much every other currency is weaker. President Rousseff could well be out of a job today, should the Senate vote reach the required majority, which appears likely. The economy has been crushed over the past year and the recession is seen continuing throughout this year. The real’s better performance is in part based on the expectation that Brazil will see a change of leadership, something which is now a near certainty. But some of the currency’s recovery is simply owing to the level of underperformance seen last year, with a third of its value vs. the dollar lost. Can a change of government turn-around the economy that quickly? In all likelihood, no. This means that the currency could be vulnerable over coming months, once the realisation that a change of leadership still means the same underlying problems and weaknesses remain.

Elsewhere, the dollar has taken a pause in the recent rally, although that has seen it recover more than 2.5% of its value from the lows seen early May. The main focus for the majors during the second half of the week will be with sterling. Production data today is seen recording a modest recovery of 0.5% on the headline rate. Thereafter, it’s the Inflation Report tomorrow that will grab the attention. Carney will have a difficult job of trying to temper speculation over the impact of a potential Brexit on the economy and also on monetary policy. Sterling, for its part, has managed to shake-off such concerns for the time being, but the options market continues to price the uncertainty. It’s likely that we’ll see a greater currency sensitivity to the reading from polls going forward towards the 23rd June referendum date.

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