Brazil's 15,000% Hedge-Fund Legend Ready for Election Volatility

(Bloomberg) -- Brazil’s presidential elections are standing in the way of Luis Stuhlberger’s optimism.

While the legendary hedge-fund manager finds plenty to like with improved fiscal policy, muted inflation and better-than-expected economic growth, he expects volatility to roil markets ahead of the October ballot. With no obvious front-runner among the more moderate candidates, there’s a chance none of them makes it to the runoff vote, leaving investors in the dark about the country’s economic future.

“I’m afraid of this election volatility. Everyone is," he said in an interview last week in Sao Paulo, where his Verde Asset Management, backed by Credit Suisse Group AG, oversees 33 billion reais ($10 billion) in assets. He thinks price swings are likely to pick up as the election draws nearer and traders try to guess who is most likely to win, which should bring in buying opportunities.

Investors hang on comments from the 63-year-old Stuhlberger, one of the most revered hedge fund managers in Brazil after his Verde fund posted a total return of some 15,000 percent since its inception 20 years ago, almost eight times the benchmark. But last year was tough, as a pessimistic stance on the domestic economy amid a 27 percent rally for the Ibovespa and a bet against China that didn’t pay off led its main fund to underperform for only the third time in two decades.

In fact Stuhlberger had been sour on Brazil since 2014, when he exited domestic stocks completely amid political turmoil and a looming recession. A string of positive surprises has prompted him to reconsider, and his flagship Verde fund -- which has been closed to new clients for years -- has been buying back into equities in the past few months.

He’s been encouraged by the administration of President Michel Temer, who has overseen a 53 percent stock rally since coming to office as he passed legislation to loosen labor laws, set a spending cap and pushed to lower the government’s pension costs. But with Temer set to depart at the end of year, Stuhlberger is waiting for markets to get worse before they get better to jump in.

"When I look at Brazil’s fiscal outlook, with a spending cap that can’t be met, how can one be optimistic? Well, I think it’s exactly because we’ve reached a real crossroads and populism is now behind us," he said.

Domestic stocks now account for about 8 percent of Verde’s portfolio, a far cry from the 33 percent they represented between 1997 and 2002. Stuhlberger says it’s difficult to specify a level for the Ibovespa he would see as attractive given the uncertainty about the election.

With the candidacy of former President Luiz Inacio Lula da Silva seen as less viable after his graft conviction was upheld by an appeals court last month, the biggest risk has become that no centrist candidates make it to a runoff vote, according to the hedge fund manager. He likens this year’s election to 1989’s, when then-union leader Lula faced off with outsider Fernando Collor for the presidency after beating some 20 candidates in the first-round vote. Collor -- who has said he will run again this year -- won, only to be impeached shortly after amid allegations of corruption.

“In an election where you have a lot of candidates, all polling around 16 percent to 17 percent, you don’t have any idea of who can make it to a runoff,” he said.

Lula, who is generally unpopular with investors who fear he would boost government spending too high, leads all election polls by a wide margin despite his conviction. He is followed by firebrand former army captain Jair Bolsonaro, who isn’t as brazen in his opposition to the current government’s reform agenda as the former president, but whose proposals aren’t well known. Market-friendly candidates like Sao Paulo Governor Geraldo Alckmin and Finance Minister Henrique Meirelles have no more than 10 percent support in early surveys.

Stuhlberger says he’s keeping a close eye on the real, and plans to exit his position in the currency should it appreciate to 3.1 per dollar. The tender, which last reached that level in September, has since retraced back to 3.28 per dollar. His view would change if the government manages to approve its flagship pension reform, a scenario which isn’t priced in the markets, he said.

One of Stuhlberger’s latest reads, during a recent vacation, has also helped him reflect on how Brazilian investors are thinking past the election and where the best opportunities are. The book, Michael Lewis’s “The Undoing Project: A Friendship That Changed Our Minds,” is an account of how Israeli psychologists Daniel Kahneman and Amos Tversky wrote a series of studies that led to the creation of behavioral economics.

The theories are “really interesting because you take a mass of people that are looking at Brazil and try to understand what they are thinking, what’s priced in and what’s not,” he said.

To contact the reporters on this story: Julia Leite in Sao Paulo at jleite3@bloomberg.net, Felipe Marques in Sao Paulo at fmarques10@bloomberg.net.

To contact the editors responsible for this story: Daniel Cancel at dcancel@bloomberg.net, Michael J. Moore at mmoore55@bloomberg.net, Brendan Walsh

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