(Corrects to show biggest currency drop since 1999, not biggest
drop in 14 years, paragraph 11)
By Bruno Federowski and Dion Rabouin
SAO PAULO/NEW YORK May 18 Brazilian markets
plummeted on Thursday as allegations that President Michel Temer
condoned bribes to silence a key witness deflated investor
optimism about the prospects for his ambitious pension and labor
Brazil's benchmark Bovespa stock index closed 8.8
percent lower, its biggest daily decline since the 2008
financial crisis. Trading had been halted for an hour after a 10
percent drop triggered a circuit-breaker mechanism.
Blue-chip stocks such as lender Itaú Unibanco Holding SA
and state-controlled oil company Petróleo Brasileiro
SA dragged the index lower.
The declines slashed 26 billion reais ($7.7 billion) off the
individual market values of Itaú and Petrobras.
Temer was caught on tape encouraging a prominent executive
to pay a monthly fee to keep jailed former House Speaker Eduardo
Cunha silent in the country's biggest-ever graft probe, sources
said on Wednesday, confirming a report in newspaper O Globo.
"Brazilian stocks and assets and their currency have rallied
very strongly up until really today. It's a big pullback and ...
it at least brings the risk up to the surface again," Alliance
Bernstein Managing Director of Equity Product Management Eric
The report threatened to torpedo a two-year rally in
Brazilian assets as traders quickly reassessed the chances of
success of efforts to streamline the country's social security
system and reform labor regulations. As a result, policymakers'
attempts to curtail the growth of public debt and foster
economic growth may also be in doubt.
Strategists at JPMorgan Securities and UBS Securities
downgraded their recommendations on Brazilian equities to
"neutral," citing increased risks to the implementation of
Trader Thiago Castellan at São Paulo-based Renascença
brokerage said: "For the market, it's not a question of whether
Temer will be ousted or not. The question is whether it will be
quick and for how long reforms will be delayed."
Temer denied the allegations on Thursday, saying he will not
resign. His remarks disappointed traders who had hoped for a
swift resolution to the political crisis, putting renewed
pressure on Brazilian stocks and currencies going into the
POLICYMAKERS SPRING TO ACTION
The Brazilian real slumped 8 percent to 3.38 reais,
the biggest percentage drop since the currency was devalued in
1999, wiping out its gains in 2017, while bond prices tumbled.
Strategists at Credit Suisse Securities revised forecasts
for the Brazilian real, saying the reform agenda was likely to
be put on hold. They expect the currency to weaken to 3.50 in
three months and 3.70 in 12 months, up from 3.20 and 3.50
The sharp moves drove the market operator B3 to widen the
limits on trading of several derivatives and put policymakers on
The central bank sold $4 billion worth of new traditional
currency swaps, increasing the stock of outstanding swaps by
nearly a fourth from the current $17.7 billion.
Over the last two years, the bank has acted to reduce the
amount of swaps, which function like future dollar sales to
investors, from more than $100 billion by late 2015, to cut
taxpayers' exposure to currency moves and limit market
The National Treasury also swept to action, calling off an
auction of fixed-rate and floating-rate bonds scheduled for
Thursday and offering to buy or sell local notes in three
extraordinary auctions in coming days.
Yields paid on Brazilian interest rate futures
spiked as traders bet the central bank would be forced to cut
rates at a slower pace as the reforms outlook dimmed.
Rate futures prices indicated traders saw a 79 percent
chance that the central bank would cut the benchmark Selic rate
by 50 basis points this month and a 21 percent chance of a 75
basis-point reduction. On Wednesday, most bets pointed to a cut
of 125 basis points.
(Reporting by Bruno Federowski; Additional reporting by Claudia
Violante and Patricia Duarte; Editing by Christian Plumb and