Brazil Equity Strategy:Commodities drive earnings,Chart of the Week

CRB index and the bottom line — Following on a recent note pointing out that notjust a change in government but a rise in commodity prices has driven a Brazil stockrally, our Chart of the Week below shows that commodity prices correspond well tooverall Brazilian earnings. The graph shows the changes in expected 12-monthforward aggregate expected earnings of the Ibovespa index, month by month for thelast decade, tracked against the actual CRB commodity index level in the samemonths. (We use expected rather than actual earnings here to clear out the up-anddownnoise of large one-offs, but the long-term pattern of expected earnings issimilar to the pattern of actual earnings.)。

    Beyond commodity companies — While this conclusion at first seems intuitiveconsidering Brazil’s reputation as a “commodity stock market,” non-commoditycompanies are about two-thirds of the Brazilian index market cap. The predictivestrength of commodity prices is therefore explained not only directly by the results ofstocks like Vale, Gerdau, Petrobras, or Fibria, but by the general impact ofcommodity prices on Brazilian investment, credit, confidence, and growth. Brazil is amajor producer of 17 of the 19 types of commodities that make up the CRB index, inmany cases for export. It also has a diversified industrial and service economybehind relatively high protectionist walls. So when high commodity prices spurgreater sales of fertilizer, pickup trucks, farm machinery, oil platforms, or agriculturalcredit, most of the resulting activity and earnings are generated within Brazil.