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T H E R O L E O F C A P I T A L M A R K E T S I N B R A Z I L. Roberto Teixeira da Costa New York, July 26, 2011. Before the sixties, Capital Markets were practically inexistent in Brazil :. Small rate of savings Commercial banks offered checking account with nominal interest

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t h e r o l e o f c a p i t a l m a r k e t s i n b r a z i l

T H E R O L EO FC A P I T A L M A R K E T SI N B R A Z I L

Roberto Teixeira da Costa

New York, July 26, 2011

before the sixties capital markets were practically inexistent in brazil
Before the sixties, Capital Markets were practically inexistent in Brazil :
  • Small rate of savings
  • Commercial banks offered checking account with nominal interest
  • Inflation fear was not a factor
  • Investors preferred real estate investments
  • Stock exchanges were not relevant, with very few corporations listed
  • Share offering was not a factor to capitalize corporations
  • Public and private debt instruments were not used and did not inspire investors confidence
slide3

In the fifties, DELTEC and IBEC (Rockfeller family), both created by American businessmen, pioneered in creating a distribution system to sell equity securities and mutual funds throughout Brazil on a door-to-door basis. That lasted till the beginning of the sixties. The surge of fixed income securities in the financial markets, associated to the lack of motivation of corporations to go public, made such pioneer efforts to change their focus and to adapt to a new environment where fixed income securities started to prevail.From that moment on, inflation became a factor for investors in the early sixties. Protection against currency devaluation gradually started to be searched including buying foreign currencies.

slide4

A big effort to foster Capital Market developments was introduced in 1964/65, with deep reforms in the financial markets through specific legislation. That was one of the many measures enforced by the militar regime

  • Creation of the Central Bank, with a specialized Capital Markets Department. (1965)
slide5
Approval of a Capital Market Law, also in 1965, based basically on:
    • Incentives for investment in new Equity issues
    • Creation of specialized institutions to operate in different segments of the financial markets.
    • Investment banks were created
    • Brokerage houses were restructured, allowing new entrants
    • Incentive for dividend payments
    • Taxation reduction on dividend distributed
    • Convertible bonds were authorized
    • Government fixed income securities with monetary correction was made possible
slide6
Creation of a Capital Market agency within the Central Bank

As consequence:

    • A new interest for buying shares.
    • There was a spiral of price increases in the very small and narrow stock market that led to a boom in securities prices.
    • At the end of the 60’s such extraordinary and uncontrolled boom led to an incredible stock price overvaluation and new issues coming into the market unprepared for such boom.
slide7
Most corporations that went public did not realize the implication of being a listed company.
  • Situation : lack of transparency and proper regulation led to rampant speculation
  • The result was a dramatic price correction in the market. That made some new investors into the stock exchanges to loose fortunes. Such process lasted for some years and the stock market as an investment alternative was affected.
the new phase reconstruction
THE NEW PHASE :

RECONSTRUCTION

slide9

In 1976, a new Government considered the Capital Market as an instrument essential for economic and social development, approved a reform to attack the 4 leading aspects identified as main factors that caused the crisis of 1971.

slide10
I.      A New Corporate Law focused on stronger protection to minority shareholders and also making possible the issuance of new debt instruments to capitalize corporations.
  • II.      The creation of an independent Securities Commission to regulate capital markets, new issues, mandatory auditing, brokerage houses, etc. Stimulation of self-regulation by the Stock Exchanges.
slide11
III.      A solid basis of institutional investors to build strong support for the market to operate. It was made crystal clear that one of the reasons of the market rupture before and after the crisis was the inexistence of institutional investing that could operate on a contra cyclical basis. One of the major initiatives within this segment of Institutional Investors was the regulation of Pension Funds (since a few, such as Banco do Brasil - Previ, already existed, without any legal framework to protect insured participants), which were obliged to invest a minimum of 20% of their assets in equities (1978)
slide12
IV.  Gradual opening for foreign investors to participate in the market, initially exclusively through institutions and after also by individuals.
from 1976 77 till the new century 35 years elapsed
FROM 1976/77

TILL THE NEW CENTURY

35 YEARS ELAPSED

the main factors affecting capital market evolution were
The main factors affecting Capital Market evolution were:
  • Strong and unfair competition of Debt Instruments X Equities due to very high inflationary situation present till mid nineties and high positive interest rates.
  • No incentive in most of the period (1995 – 2002) for companies to go public. Prices were not attractive to sell shares.
  • Institutional Investors, particularly Pension Funds, became a relevant factor in the market.
  • Foreign investors in the nineties gradually started to play an important role.
slide16
Some leading Brazilian corporations were listed in NYSE and started to be traded through ADR’s.
  • The Securities Commission acted with stronger force in the market in recent years. More resources and support from the MoF.
  • Corporate Governance became a factor in the eyes of investors as listed corporations became more attained to create shareholder value.
  • Foreign Investment Banks also started to play an important role as mutual fund managers and in the underwriting market (respecting the Chinese Wall).
slide17
BOVESPA created the New Market, with more disclosure, liquidity and more protection to minority shareholders (see enclosed).
  • A big surge in IPO’s were affected later by the financial crisis in 2008 (see chart on next pages)
  • New Debt Instruments and a variety of funds became available for investors. Recently the government has been creating incentives for the private sector to sell securities with longer maturities.
  • During the first semester of 2011, Brazilian corporations captured R$ 57,8 billion showing an increase of 12,5% compared with the same period in 2010. Issue of fixed securities represented R$ 42 billion where 51% were represented by bonds.
  • Stock issues (IPOs and follow on) represented R$ 15,7 billion (9% over 2010).
slide18
Evolution of IPOs

Corporate governance as the norm for local companies

Participation of Listing Segments at the Exchange (2010)

IPOs by Listing Segment*

• 35% of total listed companies

• 66% ofmarketcapitalization

• 80% of traded value

174 companies

Source: BM&FBOVESPA. (*)Data from 2004 to 2010.

slide19
24 public offerings in 2009 (6 IPOs and 18 Follow-On), raised BRL 46.0 bi

22 public offerings in 2010 (11 IPOs and 11 Follow-On), raised BRL 69 billion

Recent capital raising activity

Public Offerings in 2009/2010

BRL billion

5,1

Source: BM&FBOVESPA.

slide20

Inicial PublicOfferings

OtherOfferings

Capital raising activities – Equities

(December 2010 - US$ millions)

World Markets

Emerging Markets

Ranking WFE

2ndplace

Ranking WFE

3rdplace

11 IPOs

Source: World Federation of Exchange (WFE). ¹ Members of Emerging Markets Committee - IOSCO.

slide21
BM&FBOVESPA:

an important Global Player

Largest stock and derivatives exchange in Latin America

4th largest listed exchange in the world – UD$ 15,5 billion (Apr/27/11)

IMPORTANT CAPITAL MARKET

The world’s 1st largest equity option markets (Mar/2011)*

World’s 4th largest market in terms of capital raising activities (Mar/2011)*

Ranked among the world’s top 6 derivatives exchanges (2010)**

LISTED COMPANIES

Number of listed companies: 465 (mar-11)

Market capitalization of the listed companies: R$ 2,5 trillion (USD 1,5 trillion)

Source: * WFE and IOMA; ** FIA

slide22
Novo Mercado creation: reflecting the best corporate governance practices and assuring essential rights to the investors

Non-resident Investor: improvement of the regulations (Resolution 2.689/2000) and increase in the promotion of the Brazilian market abroad (BEST)

Institutional alliance to generate incentives

Investment Banks: self-regulation code – exclusive ANBIMA signet for offerings made by companies listed at least in Level 1 (Nível 1)

Pension Funds: Resolution 2829/2001 – higher allocation limit for shares listed in Novo Mercado, Level 1 and Level 2

BNDES: possibility of invested companies making their IPO in the Novo Mercado

Macro economic context: currency stability

Fundamental factor

Market Anomaly in the 90’s

Solution found

individual investors in stock exchange
Individual Investors(in Stock Exchange)

There is a great gap in the comparison of the financial volume traded in the share market by individual investors in 2010 . In Brazil they were responsible for 26,4% while in Korea represented 84,7%

slide26

IBOVESPA Evolution

(Dec 00 – May 11)

Source: Bovespa

slide27

Stock Exchange Comparison

(000.000 of US $- 2005 – Jun 2011)

Source: Bovespa

slide28

Stock Exchange Comparison

(000.000 of US $- Jan 2011 – Jun 2011)

Source: Bovespa

slide29

Brazilian Sustainability Index (ISE)

(Dec 05 – Apr 11)

Source: Bovespa

slide31
Accomplishments

Capital Markets in Brazil

  • Stimulation of domestic voluntary savings.
  • Continuous enhancement of the rules for foreign portfolio investment, which grew consistently.
  • Creation of a financial alternative for Brazilian corporations to expand.
  • Private sector was given increased responsibility in voluntary capital allocation.
  • Privatization was an important element to increase the size of the market and supplying investors with more alternatives.
slide32
Capital Market was a factor that helped economic stabilization process.
  • Strong financial system with local ownership was essential to minimize impact of external crisis.
  • Brazilians preserved the capital market and entrepreneurship during difficult times. (Brazil X Argentina: a good example).
  • Public ownership in corporations increased the support for a market economy.
  • Efficiency and productivity was enhanced by employees ownership of stocks of their corporation when they went public.
slide33
Ethical behavior for listed corporations was a positive factor. Increased social responsibility: environment protection and minority interests, as well.
  • Thus, corporate governance affects positively the different ambient were corporations acts. In comparative terms Brazil ranks in better position compared to BRICs countries (Russia, India and China)
slide34
The Regulatory and Surveillance Authority (CVM) is complemented by the:
  • CVM (Brazilian Securities Commission), in its role as a and supervising institution, is fighting to diminish the time lag between market deviations and “punishment – judgment”.
  • Self-regulatory role of the stock and futures exchanges
  • Growing relevance of the self-regulatory role played by the National Association of Investment Banks:
      • Managers of investment funds
      • Investment banks acting in the public offering of securities
slide35
Local accounting procedures (Brazilian GAAP) is making progress in terms of convergence to international standards (IFRS).

But…

  • High inflation rates increased by interest rates desestimulation for investments in equities.
  • Public debt instruments captured a large position of the country’s savings, but still have a short average duration.
problems to be addressed
Problems to be addressed
  • Volatility
    • Swings in the market created discomfort for shareholders. Stock Exchange volatility continues to fear investors.
    • Difficulty to attract individual investors to the market. The target of 5 million individuals in the Stock Exchange looks difficult to accomplish
  • Need for additional corporate governance enhancement has yet to be completed.
    • 1 share 1 vote
    • Tag along in sale of controlling interest.
    • More independent Board Members.
    • More corporations, without controlling shareholders.
slide37
Low savings ratio to GDP

Source: IMF - 2010

slide38
There were some inconsistencies in Government policies towards Capital Market development but recently has received more attention from Economic and Financial authorities. The recent cases of Petrobras (capital increase) and VRD (management change) are clear indicators of government strong hand in such leading trading corporations.
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