Brazilian Real Scott Noble Chris Hittesdorf Kenji Oka Aubrey Gaeta

Part 1: Technical Analysis for USD/BRL Inverted Scalehttp://fx.sauder.ubc.ca

Implications for U.S Hedge Fund  Close or hedge short positions on USD/BRL  Open long positions on USD/BRL  Goal: Seek to profit off expected short-term weakness in the Brazilian Real

Conclusions  Apparent resistance at 2.12  Projected Real weakness going forward  Adequate data is available on USD/BRL  No signal is ever clear or guaranteed Right now it is even less clear

Part 2: Asset Choice Model Decrease in the interest rate over the past 3 months from 18% to 15.75% putting downward pressure on the currency. Decreases the demand for the currency This country still has one of the highest interest rates in the world. Inflation rate over the past few years has been 8.7% which is very high. This could represent an area of risk that would decrease the demand for a currency that is unstable.

Bloomberg Data

Balance of Payment Model  Capital account is running at a surplus of 1.35 Billion USD  Trade balance is running deficit of almost 4 Billion USD  Upward vs. Downward Pressure  With a larger trade balance deficit there will be more downward pressure on the currency

Part 3: Relative PPP Model  Shows the trend of recent inflation rates.  The source for estimating the expected annual rate of inflation in the US and Brazil.  Puts weight on each years’ inflation rate.

Historical Data (Table 1.): Inflation Rate (CPI)weight YearU.S.Brazil % % % % %

“Expected” annual rate of inflation  U.S.: 1.59(.05)+2.27(.1)+2.86(.15)+3.39(.25)+3.3 (.4) =  Brazil: 12.53(.05)+9.3(.1)+7.6(.15)+5.2(.25)+4. 8(.4) =5.9165

Relative Purchasing Power Parity Model  The current spot rate of BRL (April 23rd, 2006) =  The expected annual rate of inflation in the United States=  the expected annual rate of inflation in Brazil =

Relative Purchasing Power Parity  PPP Spot Rate of BRL = * [( )5 / ( )5] = *( / ) = * =

Result from the relative PPP model  5 years into the future, the BRL is forecasted to weaken against the dollar.  Brazilian Real has relatively higher inflation rate than the U.S. dollar.  Therefore, it will experience depreciation on foreign exchange markets.

The implication for the global firm  The firm selling products in Brazil. They will lose their profits in 5 years.  It takes BRL to convert 1 USD in 5 years.  It takes BRL to convert 1 USD now.  The firm manufacturing products in Brazil. They will gain their profits in 5 years later.  They get BRL for 1 USD in 5 years as their profits.  They get only BRL for 1 USD now as their profits.

Part 4: International Fisher Effect  European Terms spot rate (4/20/2006): 1 USD = BRL  Brazilian Yield Curve (USD): Current Price/Yield 122/5.690  United States Notes/Bonds: Current Price/Yield ½ /4.920  Future IFE Spot Rate: BRL = 1 USD

Analysis of International Fisher Effect  Future IFE Spot Rate = x ( ) 5 = ( ) 5  So long as interest rates stay the same the Real will weaken against the dollar.  For companies investing overseas, long term investments would be good to make if investing in manufacturing abroad.  However, because the inflations rates are higher in Brazil than in the US the currency will depreciate over the next few years meaning that transferring Real back into dollars will not be profitable.