Europe overtakes US for Brazilian equity inflows

Equity fund flows into Brazil have soared since the transaction tax was repealed last year, driven by increased inflow from Europe, not the US, new research has shown.

Foreign equity fund flows into Brazil have soared since the country's transaction tax was repealed last year, driven by increased inflow from Europe, according to new research.

The proportion of investment from European firms in Brazilian equities hit 45% of all foreign investment in the first eight months of 2012, overtaking US inflows for the first time, which stood at 38% during the same period.

In 2008, the proportion of foreign inflows in Brazilian stocks comprised 52% from US firms and only 26% for Europe firms, while inflows from Asia-Pacific and the Middle East remained steady at below 5%, according to the report from consultancy Aite Group.

Overall foreign investment in Brazilian equities hit 40% in 2012, compared to 2010’s figure of 30%, after the regulator ceased a levy on equity transactions from foreign entities last December.

The IOF tax stood at 2% for equities, derivatives and fixed income transactions by foreigners since its launch in October 2009, and a year later increased to 6% for derivatives and fixed income instruments. The Brazilian government originally introduced the tax to control he rapid appreciation of the Brazilian real. The tax continues to be imposed on inflows destined for fixed income investment and derivatives.

Danielle Tierney, analyst with Aite Group and author of 'Brazil focus 2013: Opportunities below the surface', said the shift from the US to Europe was unexpected.

“The United States is no longer the only Brazilian customer in town. The shift in trade activity and account openings to the European market indicates a growing demand for all things Bovespa,” Tierney said.

The report also highlights the rise of high-frequency trading (HFT) in Brazil, which has been restricted by national regulation. A 1.5% tax on redemptions of American depositary receipts of Brazilian companies in addition to the remaining levies on derivatives in the IOF tax have limited HFT growth. Despite this, the percentage of HFT trades hit a November 2011 high of 11.5% of equities.

Although Brazilian exchange BM&F Bovespa is improving its technological infrastructure – including the implementation of a new trading platform and an ongoing project to revamp and consolidated its clearing infrastructure – which would benefit HFT firms, the report predicts a more modest increase in HFT compared to the bourse's own prediction.

“While estimates for sustainable HFT participation were optimistically placed by observers and the exchange itself at around 20% in late 2011, we expect a more realistic achievable level of about 10% for both segments,” the report reads.