Distressed assets put Brazil at the center of emerging markets opportunities
By Hugh Leask
With Russia and China looking increasingly uninvestable for emerging markets investors, the coming 12 months offer “an amazing environment” for distressed and special situations opportunities in Brazil amid a shifting inflationary and interest rate backdrop, according to Brunel Partners, a Latin American-focused capital advisory and placement agent.
Established in 2015, Brunel Partners has worked with an assortment of firms focused on a range of asset classes and strategies spanning liquid funds, venture capital, hedge funds and traditional private equity approaches, including growth and buyout funds.
Partner and Co-Founder Daniel Rummery describes the São Paulo-based firm – which has raised between $2.5 billion and $3 billion of inward investment from international investors over the last six years - as a “boots-on-the-ground” operation, with a team of 15 comprising a mix of British and Brazilian staff.
“The opportunity set here is really strong here,” Rummery said of the prevailing investment landscape, particularly within the distressed and special situations sphere where a growing number of companies face bankruptcy pressures amid the high interest rate and inflationary backdrop in the aftermath of the COVID-19 pandemic.
Delayed distress
The firm recently partnered with Jive Investments, the largest distressed asset manager in Brazil, on fundraising for its latest Jive Distressed and Special Situation IV fund, which is targeting investment opportunities in corporate credit, real estate assets and legal claims among mid-to-large cap companies under pressure.
The fund had its first close on July 1 following a six-month fundraising process, having attracted $560 million from investors. São Paulo-headquartered Jive is now working on a second and final close towards the end of this year or Q1 2024, with a target of $1 billion and a hard cap of $1.2 billion.
According to Rummery, Jive is “as excited by the current environment as it has been for any of its previous funds”. He said the current unfolding economic landscape is similar to when Jive was raising capital for its first fund, where interest rates had been high for a sustained period of time, at around 14%.
“The market’s not easy at the moment globally, so we were very pleased to reach $560 million dollars in total fundraising for that that first close,” Rummery told Alternatives Watch in a recent interview. “We’ve gone through different cycles for Brazil over the years - we had Brazil’s worst-ever recession when Jive started, which was in 2015, with a negative 10% GDP growth in 2015 and 2016. That’s really the genesis of how Jive came to exist in distressed assets, and how it built what is now the largest distressed assets fund manager for Latin America.”
As Brazil’s government increased liquidity support for the country’s financial system during the pandemic, that helped temporary ease the pressures faced by corporates from banks and other lenders. “It’s the same story across the world – interest rates were kept artificially low, and then coming out of Covid-19 interest rates were hiked,” he said.
“Yet because of the historical nature of inflation and the wariness of inflation here, when Brazil hikes, they really do hike pretty quickly,” Rummery explained, recalling how Brazil went from 14% rates in 2015, down to 2% in 2019, and then back to almost 14% post-pandemic. “There has been a lot of delayed distress building up, as companies who would otherwise have been in distress during COVID had been given a free pass.”
Unique edge
Now, as Brazil’s central bank commenced rate cuts earlier this month, with a 50-basis points reduction bringing the current rate to 13.25%, the next 6-to-12 months look set to be “an amazing environment” for Jive to purchase assets while companies continue to feel the impact of the recent high interest rate backdrop.
“The banks are actually coming through and foreclosing or restructuring loans, which is where Jive plays mostly, and so you are now starting to see a large increase in the number of restructurings or bankruptcies in the last six months,” Rummery said.
While certain industries are currently performing well in Brazil, namely agriculture, others such as infrastructure continues to face pressures. He added that with 250 employees, Jive’s servicing platform capabilities lends the firm a strong competitive advantage in distressed investing in Brazil.
“Jive’s unique edge is its ability to go to the banks and buy up these portfolios of bad loans, restructure them and help clean up the capital market system,” Rummery explained. “They can do that across all sectors - there are not many other groups which have that kind of capability.”
Jive’s strategies have a strong distribution among Brazilian family offices, while its offshore client base comprises a mix of institutional investors, including a large sovereign wealth fund, and international family offices in the U.S. and Europe.
“Jive has maybe a hundred different families investing with them in Brazil – that helps if they need to reference-check or find out more information on a potential asset or a business that they're looking at. They can use that network to take a deeper dive. From cosmetics business to oil and gas to infrastructure to real estate developers, Jive’s team can quickly get a grip on a certain company using that network.”
Game-changer
Structurally, Jive’s strategy does not fit into a traditional private equity bucket in investors’ portfolios.
Rummery noted: “It’s a slightly more mixed approach. Essentially it’s private equity-esque returns with credit risk, but at six years, it’s shorter duration than private equity. Many of the assets are relatively short-term, at around 12-18 months. Fundamentally Jive are credit investors – they don’t take equity risk. Yet because it’s special situations and distressed, Jive is able to get 20+% returns in dollars, which is important.”
Delving deeper, Rummery also pinpointed currency as “super critical” issue for investment managers actively fundraising in Brazil at the moment.
“Historically, the currency has been very expensive to hedge, and most managers have not hedged the currency, which often led to weaker performance and returns in U.S. dollars,” he said.
Fundamental investments have not been bad necessarily, but because the currency had depreciated significantly over the last six or seven years - from as low as 1.6 in 2012 to 5.5 last year there has been a huge drag on U.S. dollar performance.
“But what Jive has been able to do since Fund III, which has been a huge positive for them, is that they were able to create a hedged share class,” Rummery explained. “That allows them to hedge into dollars, costing around 2% a year of the return. So there’s not this huge differential between what you generate in Brazilian reals and what you’re generating in dollars.”
He described the hedge as a game-changer in terms of raising money.
A shifting narrative
Reflecting on recent macroeconomic and investment trends, Rummery acknowledged that Brazil has been a tough market to sell to investors over the past few years despite a boom in the venture market.
However, as Brazil begins to cut interest rates ahead of the curve, with inflation heading towards being among the lowest out of the major economies, the macro narrative is beginning shift, particularly within the emerging markets space.
“The opportunity set in Brazil is either more in the special situation sector, where you can generate 20%+ IRRs net in dollars - not always distressed, but more of a downside protection with kind of equity upside approach. Or, there is the mid-market private equity space in Brazil, which is also very interesting,” he said.
“Jive is not the only fund we work with – we work with 15 different groups, all doing something slightly different. While Jive is on the credit side, there are a number of other funds which are more equity-style that are active in distressed. People like Starboard, which is part of Apollo, who we work with.
According to Rummery, for investors looking to allocate to emerging markets, there are not many large markets in which to invest where the rule of law works and is performing reasonably well.
“Clearly Russia is uninvestable, and will remain so for a long time. Eastern Europe, because of Russia, is also difficult,” he added. “China has become uninvestable for almost all of our institutional clients in the U.S. China had become a huge market and was a large allocation of capital for investors’ emerging markets focus, but I don’t see any of the large pension plans and foundations and endowments investing in China anymore. Then there’s India, which has become expensive.”
That leaves Brazil and the related Latin American region.
“We’re heading into a potentially heading into an environment where asset managers in the Lat-Am region, and this includes Mexico, should see some good flows in the next two to three years,” he commented.
This article, “Distressed assets put Brazil at the center of emerging markets opportunities” was originally published on August 21, 2023 on Alternatives Watch and is republished here with permission from BMV Digital, Inc.