Brazil

Conditions are falling into place for inflation to plunge and monetary easing to progress rapidly. This in combination with structural reforms creates a bullish backdrop for Argentine financial markets. The current economic, structural and political configurations look more promising for Argentina than Brazil. Go long Argentina/ short Brazilian sovereign credit, overweight the Argentine bourse versus the Frontier Markets benchmark and, go long the Argentine Peso versus the Brazilian <i>real</i>.

Brazilian risk assets have rallied on the back of investor optimism about the impeachment of President Dilma Rousseff. But the political games have just begun. With all politicians looking to the October municipal elections and 2018 general elections, the Michel Temer administration is unlikely to impose fiscal and structural reforms. Debt dynamics are set to worsen, and we continue to short Brazilian equities.

The current risk premium embedded into Brazilian financial markets is too low and will widen as investors come to realize Brazil's unsustainable public debt dynamics. The government is planning a major shift in its fiscal policy framework that will ease pressure to cut budget expenditures, but is bearish for the nation's public debt trajectory. Although the economy could stabilize going forward, financial markets are already discounting a lot of good news. Stay put.

Markets will remain stuck in a trading range, driven by two policy feedback loops: the Fed's and China's.

A combination of physical rebalancing in the oil markets and geopolitical risk have pushed oil prices above $50/bbl. We therefore close our recommendation - made jointly with BCA's Commodity & Energy Strategy team - to long a December 2016 WTI $50/$55 call spread for a 106.3% gain.

Brazilian assets are no longer oversold, are not cheap, and the political reality will likely fall far short of market expectations. Investors should continue to avoid/underweight Brazilian risk assets.

Monetary policy at systematically important central banks will determine the winners and losers in global ag export markets going forward. The evolution of fundamentals - supply, demand, and inventories - will remain essential drivers. Mother Nature is the wild card.

The near-term (next month or two) market dynamics in EM risk assets remain a coin toss. Beyond that the outlook for EM risk assets remains downbeat. EM financial markets are complacent and there are many potential negative EM/China developments that could derail the current EM rally. A new trade: go long the KOSPI / short EM overall equity index.

Brazil is not a buy. Impeachment alone is not a solution to Brazil's problems. Recent political changes will prove insufficient to alter the public debt dynamics in Brazil. Investors should focus on the bigger picture. Without severe fiscal austerity, Brazil is headed for a debt crisis in the next few years.

EM/China growth improvements and the associated rally will falter on their own without tightening by policymakers. The short duration of these mini-cycles and a lack of observable catalysts make it impossible to precisely time selling out of EM positions. This makes us reluctant to chase the rally. Regardless how the impeachment process proceeds, Brazil is heading into a fiscal/public debt crisis.