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Bolsonaro's presidential odds rise sharply, buoying Brazilian markets

Brazilian markets shot sharply higher Oct. 8, a day after the country's first-round election showed a much stronger-than-expected result for the perceived market-friendly presidential candidate, Jair Bolsonaro.

Top Brazilian equities in the Bovespa index surged 4.72% on the day with record-high volume. About 60 of the 65 stocks in the index ended the day in the green.

Publicly owned companies like Petrobras and Banco do Brasil SA, whose shares rose 10.57% and 9.82%, respectively, led the uptick, though the country's major private banks also surged higher. Banco Bradesco SA, Banco Santander (Brasil) SA and Itaú Unibanco Holding SA rose by between 5.50% and 7.00%.

The Brazilian real, meanwhile, gained 2.63% against the dollar to hit 3.77 reais per US$1 on Oct. 8, bringing the currency's gain so far in October to 6.25%.

The right-winged Bolsonaro secured 46.03% of the vote in the Oct. 7 election, well above the 30% to 35% range polls had suggested he would garner and only a few percentage points away from the 50% threshold needed for an outright win. He will now face off against the Worker's Party's Fernando Haddad, who came in second place with 29.28% of the vote, in an Oct. 28 run-off election.

Bolsonaro's National Social Liberal Party also gained ground in the legislature in the Oct. 7 election. The political party, which has to-date been a minor player in Brazilian national politics, won 52 of the 513 seats in Brazil's lower house. Only the Workers' Party will have more seats, Folha de S. Paulo reported.

The market movement Oct. 8 adds to gains in the previous week as Bolsonaro gained traction in the polls, boosting investors' hopes that the future government will tackle a growing deficit and push forward with long-awaited structural reforms.

"Given the sharp rally that has already occurred, room for additional real appreciation is more limited," ING Group said in a statement labeled "anti-establishment wave prevails." It considered some risk of the real-to-dollar exchange rate temporarily dropping below its year-end forecast of 3.70.

The strengthening momentum for Bolsonaro, whose economic guidelines are seen as more aligned with financial markets than Haddad's, prompted political consultancy group Eurasia to give him a 75% chance of him winning in the second round. According to several academics and experts, only a grand coalition or a major misstep will prevent Bolsonaro from securing the presidency at the end of the month.

Oxfords Economics has regarded Bolsonaro as an "unlikely market favorite," noting that he has gained its support despite "his links to the military and vocal sympathy with Brazil's former dictatorship, which has led many to doubt his commitment to democracy."

Bolsonaro has said that it will leave his administration's economic policy to the well-known economist Paulo Guedes, who has focused on the privatization of state-owned companies, a "brutal" simplification of taxes, and a reduction in the number of government ministries.

According to Kim Catechis, head of global emerging markets at Martin Currie, a "sharp recovery in Brazilian assets (bonds, stocks and currency)" should be expected if Bolsonaro confirms his win. BTG Pactual strategists cited by Reuters said they "wouldn't be surprised" if the Bovespa index topped 105,000 in such a scenario, well above its Oct. 8 closing of 86,205.98.

Still, credit rating agencies remain cautious. S&P Global Ratings, who had previously qualified a Bolsonaro presidency as more uncertain from an economic perspective, outlined that "uncertainty still prevails in relation to the election result and to the next government's ability to implement crucial reforms," Valor Economico reported.

Samar Maziad, vice president at Moody's, said the fact that no centrist candidate has progressed to the final round signals a sharp polarization in Brazil, which "puts a premium on the ability of the next president to establish a good working relationship with lawmakers. ... The new president will have to forge alliances in Congress to enable the approval of fiscal reforms — particularly pension reform — in order to address a fundamental weakness of Brazil’s credit profile."

In reaction to Bolsonaro's better-than-expected election performance, Haddad could in the coming days tap a market-friendly candidate to be his finance minister, and in doing so adopt a more politically centrist stance. "A runoff between a moderate Haddad and Bolsonaro is positive for the economy, as both sides are likely to offer up sound policies," Oxfords Economics said in a statement.

As of Oct. 5, US$ 1 was equivalent to 3.87 Brazilian reais.