Brazilian Real: Flows support carry resilience – BNY

BNY's Geoff Yu reports Brazilian portfolio inflows nearing post-COVID highs prior to the Selic decision, with robust demand for equities and government bonds. He notes limited FX conviction, as volumes are low and currency positioning is neutral, while iFlow data indicate the broader inflow cycle peaked in April, and the financial account is likely to stabilize instead of accelerating.

BRL inflows are recovering ahead of the Selic rate decision, fueled by improved terms of trade interest, strong equity demand, and ongoing purchases of Brazilian government bonds. Conviction remains limited due to exceptionally low FX volumes, neutral currency holdings, and a potential peak in the broader portfolio flow cycle. Despite caution on the currency, the primary validation of a stronger market view on Brazil lies in the continued improvement in underlying asset flows.

Equities and sovereign bonds have experienced few outflows over the past month, with equity demand particularly strong. Government bond inflows should remain the main anchor for Brazil's external liability position. While bond flows have been less significant than equity flows, momentum remains positive and points to ongoing carry demand.

The main challenge is duration, as the current Fed backdrop and steep U.S. Treasury curve favor front-end exposure, whereas emerging markets benefit when hawkish monetary policy and fiscal credibility reduce term premiums and enhance access to longer-term funding. Brazil's financial account remains robust, although momentum is slowing.

The iFlow EM portfolio flow proxy suggests combined inflows peaked in April, aligning with official data, and the pace of deterioration eased in July, though the overall trend remains clear. Following a decline of approximately $1bn in June, the monthly net financial account balance is expected to stabilize around zero rather than rapidly return to the exceptional inflow levels observed earlier in the year.