(25 JULY 2017)DAILY MARKET BRIEF 1:Brazilian real declines after massive rally

Over the last four weeks the Brazilian real rallied more than 7% against the greenback amid easing political uncertainties. USD/BRL fell from 3.3485 to 3.1111 before stabilising at around 3.1450. The move came on the back of falling odds that Michel Temer would face corruption prosecutions together with the approval by Senate of a labour reform. Even though Michel Temer is not out of the wood yet, investors did not wait the final outcome to jump back into USD/BRL’s juicy carry trade.

However, the rapid appreciation of the real has triggered massive profit taking over the last few days, suggesting that investors do not anticipate further gains. Indeed, USD/BRL erased completely the gains resulting from speculations about Temer’s potential impeachment and has since then stabilised.

We do not rule out further marginal appreciation of the real. However, the correction is not complete and further positive developments on the political side, especially regarding the fiscal situation of the country, are required for justifying a stronger real. In addition, we expect the USD to get one’s head out of the water as the Fed’s tightening story will move back to the front stage, while the BCB is expected to continue easing monetary condition, which would reduce gradually the incentive to play the carry.

By Arnaud Masset