Brazilian Real Retreats Amid Political Risks

The Brazilian real weakened to near 5.05 per USD from the near five-month high of 4.98 touched October 5th, as investors reconsidered the likelihood that fiscally conservative candidate Flavio Bolsonaro will win Presidential runoffs later this month. New polls showed Bolsonaro's lead over President Lula narrowing. Brazilian assets had rallied last week after the senator unexpectedly finished ahead of Lula in the first round. Although Bolsonaro has yet to present detailed policy plans, investors view him as more likely to pursue fiscal reforms, including spending cuts, which are seen as essential to lowering interest rates. Questions also remain about the fiscal discipline of a potential Flávio administration. Political pressure has already prompted the candidate to change his position and support ending the six-days-on, one-day-off work schedule, which the Senate approved yesterday.

The Brazilian real strengthened to below 5.00 per US dollar in October following the release of the first polls for the presidential runoff. A Datafolha poll showed Senator Flávio Bolsonaro with 49% of voting intentions against 45% for President Lula, a statistical tie at the limit of the two-percentage-point margin of error. An Atlas/Bloomberg poll put Flávio at 51.1%, compared with 45.7% for Lula, ending the statistical tie in the previous survey’s runoff scenario. Markets view Bolsonaro as more fiscally restrictive amid elevated domestic yields and weak business activity, and his economic team is considering spending cuts equivalent to around 2% of GDP. Flávio finished ahead of Lula in the first round, defying most polls and sending the real to a 17-month high on October 5th. Meanwhile, the BCB held a regular foreign-exchange swap rollover auction on the 9th. Such interventions are used to help reduce exchange-rate volatility during periods of political and economic uncertainty.

The Brazilian real strengthened sharply to below 5.00 per USD on Monday, reaching a 17-month high after Flávio Bolsonaro finished ahead of President Lula in the first round of the presidential election, defying most polls. Senator Bolsonaro received 47.03% of valid votes, compared with 45.16% for President Lula. Bolsonaro is viewed by markets as more fiscally restrictive, amid elevated domestic yields and weak business activity. The two-point margin gave the senator an initial advantage heading into the runoff. Bolsonaro outperformed the average of polls tracked by Goldman Sachs by more than four percentage points. However, the election remains unresolved, and the narrow first-round margin means volatility could remain elevated as the campaign enters its final weeks. The runoff, scheduled for October 25th, will still depend on factors including debate performances, campaign strategies, voter mobilization and the candidates’ ability to attract supporters of eliminated candidates.