By PALASH GHOSH

Canadian pension funds have been investing in Brazil, a huge country that boasts a growing $2.1 trillion economy, the largest such economy in Latin America and an especially attractive target for infrastructure and energy investments, as evidenced by the recent agreement by Caisse de Depot et Placement du Québec to increase its stake in a natural gas transmission firm.

Ironically, Brazil jumped two spots last year to surpass Canada itself as the globe’s ninth biggest economy, the International Monetary Fund found.

In December, Montreal-based CDPQ agreed to acquire an additional 15% stake in Transportadora Associada de Gás (TAG) from ENGIE Brasil Energia, the renewable energy firm, in a deal valued at about $C848 million ($632 million).

TAG owns and manages Brazilian natural gas transportation assets, spanning more 2,800 miles and 10 states across the vast country.

As a result of the deal, CDPQ will own a 50% stake in TAG, which CDPQ initially invested in about five years ago.

Emmanuel Jaclot, executive vice president and head of infrastructure at CDPQ, stated in a news release Dec. 28 that this deal is “consistent with our infrastructure strategy: in this instance, reinvesting in a portfolio company with well-contracted assets, led by a seasoned management team, and in Brazil, a country where we intend to keep growing our portfolio in the next few years.”

In November, CDPQ agreed to acquire Integracao Transmissora de Energia, a strategic power transmission network in central Brazil, from Equatorial Energia for C$108.5 million. Intesa’s transmission network “extends across central Brazil, where significant renewable electricity output is generated for consumption in the south and south-east of the country,” CDPQ said in a Nov. 1 release.

Eduardo Farhat, the Sao Paulo-based managing director, infrastructure-Latin America at CDPQ Brasil, said that CDPQ currently has C$19 billion of assets in Latin America, including C$7 billion invested in Brazil, representing about 2% of CDPQ’s global portfolio. CDPQ had total net assets of C$424 billion as of June 30.

“Our strategy for Brazil is mainly focused on infrastructure investments, as they provide long-term, stable and predictable returns,” Farhat said. “Brazil also displays a solid regulatory framework supported by a well-functioning legal system, which has helped provide a strong and diversified pipeline of opportunities.”

Aside from TAG, CDPQ also has major investments in power transmission firm Verene Energia; and FiBrasil, a fiber optic infrastructure company. CDPQ also holds stakes in joint ventures focused on real estate in Brazil.

CDPQ has been present in Brazil since 2006, having initially invested in government bonds and publicly listed equities. “In 2015, we made our first investments in the real estate sector — via our subsidiary Ivanhoe Cambridge — and we opened a physical office in the country in 2018,” Farhat noted. “CDPQ currently has eight employees based in our Sao Paulo office.”

Farhat also said that CDPQ plans to invest an additional C$4 billion to C$5 billion in Brazil by 2027.

“While our ambition is to continue growing rapidly, it always depends on finding the right transactions, the maintenance of a high-quality regulatory framework and the stability of the country’s economy,” he cautioned. “Today, Brazil has by far the most active pipeline of projects in Latin America and we are actively analyzing several different opportunities.”

Brazil has many advantages as an investment destination, Farhat noted.

“From a macro perspective, it’s a vibrant democracy with strong institutions,” he said. “It’s also a modern country and has been implementing structural reforms around social security, independence of the central bank — combined with stable borders and sectors like agriculture and energy production, which are experiencing strong tail winds — that will all help support growth.”

Regulatory stability is no more of a concern in Brazil than anywhere else in the world, Farhat asserted.

“We are comfortable with this market, and we have a productive dialogue with the government,” he added. “On a comparative basis, Brazil is well positioned globally to attract new investment, something that has been challenging in several geographies given the context of high global interest rates and the intense demand for capital in the energy transition.”

CDPQ’s strategy is to invest for the long term, he added, and “we are confident that we will be in Brazil for a long time.”

CPP Investments, which manages the assets of the C$576 billion Canada Pension Plan, Toronto, has been investing in Brazil since 2009 and now has some 36 employees there.

From its Sao Paulo office, which opened in 2014, CPP focuses primarily on the five key Latin American markets of Brazil, Chile, Colombia, Mexico and Peru, said a spokesperson.

The fund has a total of C$35 billion invested in Latin America — across infrastructure, sustainable energies, real estate, public and private equities, funds and credit — which represent about 6% of the fund’s total assets, according to CPP’s website. CPP’s investments in Brazil represent some C$15 billion in net assets, or more than 40% of the fund’s total regional exposure.

CPP’s active equities Latin America group invests in public and private equities directly and through funds, while the sustainable energies and infrastructure department invests in various energy and non-energy assets including power generation, sanitation and telecommunications. CPP also has a real estate investment team in Brazil that invests in office, retail, logistics and residential assets, and a credit investments team that provides debt funding solutions across the capital structure.

The spokesperson noted that some prominent individual investments in Brazil include Auren Energia, one of Brazil’s largest platforms for renewable energy and energy trading. CPP first invested in Auren in 2018 and now owns a 32% stake in the firm valued at C$1.25 billion.

Another top stock investment is Smart Fit, Latin America’s largest fitness chain, an investment that began in 2019 and is now valued at C$252 million.

CPP also has a C$256 investment in Totvs, a Brazilian software developer.

A spokesperson for CPP said the fund plans to “increase exposure to Brazil and Latin America over the long term but is focused on finding the right opportunities and does not have a particular target allocation.”

CPP’s Latin American investments generated a net return of 8.4% for the fiscal year ended March 31, vs. a 1.3% return for the total fund. Latin America was the top-performing geographical region for the year, according to the latest annual report. CPP cited this strong performance mainly to the “appreciation of select currencies in this region against the Canadian dollar.”

For the five-year period ended March 31, the Latin American assets returned an annualized net 6%, compared with a 7.9% performance for the total fund. It was the second-best regional performer, behind the U.S.

Ramiz Chelat, portfolio manager and senior research analyst at Vontobel Asset Management, said that despite Brazil’s image of political instability, the recent re-election of Luiz Inácio Lula da Silva as president actually occurred smoothly, despite threats from supporters of the incumbent, Jair Bolsonaro.

Chelat noted that while Lula is a leftist, the Congress is dominated by conservatives, meaning any radical policies proposed by Lula will be watered down. As such, the Brazilian political climate seems rather stable for now.

“Late last year, Brazil’s finance minister Fernando Haddad reiterated his vow to eliminate the country’s budget deficit in 2024,” Chelat said.

“Adding to some optimism are rising commodity prices, which have raised projections for GDP growth to 2.5%-3% for this year.”

Chelat also noted that investors are increasingly confident that inflation will come down this year. Indeed, Brazil’s annual inflation rate finished 2023 at 4.62%, falling within the central bank’s target range of 1.75% to 4.75% for the first time since 2020. Moreover, the central bank has been steadily cutting rates since August. The central bank also expects the Brazilian real currency to strengthen this year relative to the U.S. dollar, Chelat added.

While Brazil is often considered a commodity play by foreign investors, Chelat said the national economy is quite diverse, with “high quality businesses generating high returns on capital across consumer, financials (traditional banks and fintechs) and software industries.”

But there are some risks inherent in investing in Brazil — including an overall fiscal deficit that expanded to 7.9% of GDP in September, up from 4.6% at the end of 2022, and the fact that Brazil is still an emerging market, Chelat cautioned.

Giampaolo Isolani, the London-based head of emerging markets investment solutions and market intelligence at Amundi, said he is not surprised that some Canadian pension funds are investing significantly in Brazil, given that the country’s domestic economy is reasonably stable, its real currency has stabilized and inflation, while high by western standards, has been easing.

“We also expect Brazil to become a net exporter of oil by 2025,” he said.

Isolani also noted that Brazil’s fairly diverse and sophisticated economy — particularly its strong consumer, financials and banking industries — can buttress the well-established energy sector.