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‘All hell will break loose’: EM insider on Brazil’s new crisis

‘All hell will break loose’: EM insider on Brazil’s new crisis

Until mid-week this week, ‘everything was generally alright’ in Brazil…‘until something happened’ and since then, all hell has been breaking loose.

The spark was an explosive announcement by a couple of brothers who are being investigated in the ‘Car wash’ investigation.

This is the on-going investigation into corruption involving government and high profile businessmen in the country, which already led to President Dilma Rousseff being ousted from office.

The accusations centre on the owners of meat industry giant JBS, who have presented recordings of current President Temer in which he allegedly agrees to hush payments to Eduardo Cunha, a jailed former congressional leader.

Since the claims were made, the Bovespa has given back almost all of the year’s gains, the real (USD/BRL) is back to the mid-December (2016) level of 3.38 and the country’s bonds have taken a beating and rumours of a recently-done Petrobras deal possibly being undone.

Investors obviously fear a serious institutional crisis, which would result in political paralysis and would place important upcoming belt-tightening legislation on standstill.

Many are also waking up to the reality I have been talking about since Dilma was impeached, which is that the 2018 presidential elections are up for grabs. Lula’s return has not yet been made impossible - and he does want to run in 2018 - and Temer’s successor is a large unknown. 

So far, the only person arrested was Social Democratic Party leader Aecio Neves’s sister. Aecio was forced to resign from his senatorial leader’s post and has vowed to prove his innocence, which is an irrelevant point in the political game given his proven inability to be elected president.

What happens next?

The Supreme Court has initiated an official investigation into Temer, who protests his innocence and suggests the recordings are both illegal and illegitimate.

To be fair, after having heard the tapes – which are noisy, unclear and highly likely to have been doctored - and knowing the allegiance of the JBS folks to Lula, I am willing to put my chips on Temer.

Protests, which included banners that seem to have been produced almost too quickly to be believed, are starting on the streets calling for Temer to either resign or be impeached and one never knows how these things may turn out.

Surprisingly, Lula and Dilma have remained silent, which may confirm the theory of their potential collusion with the JBS brothers.

Objectively, Temer’s departure anytime within two years of the end of his mandate, if he is judged guilty by the Supreme Court in a criminal suit, would bring Congress to vote on an interim replacement president rather than having fresh popular elections, as street demonstrators are calling for.

That stage is far from certain, given the questionable veracity of the tapes and the unpredictability of the whole process. If you were invested and were quick to sell, congratulations. If you are long or considering buying, I would suggest it is too early to forecast the run of events.

I continue to suggest staying on the sidelines until a more stable long term path for the country can be predicted. Brazilian soap operas have a strange habit of turning out unexpectedly.

Raphael Kassin is an emerging market debt expert and former portfolio manager. He now works for investment consultancy Sandy Lane.

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