Brazilian receivables funds: an evolving investment opportunity

June 2013
Viewpoint
Brazilian receivables funds:
an evolving investment opportunity
Foreign investors and fund managers looking to obtain exposure
to Brazil are beginning to investigate the country’s fast-growing
securitization market. This consists of receivables-backed funds
called Fundo de Investimento em Direitos Creditórios (FIDCs).
These appeal to investors because of their relatively high yields and
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Several recent changes have made these vehicles more appealing
to foreign direct investors and fund managers. First, regulators
have released rules allowing foreign fund managers, through
local subsidiaries or partnerships, to set up and manage FIDCs in
Brazil, opening an opportunity for non-Brazilian asset managers to
offer them to their domestic clients. Also, tax authorities and the
central bank have ruled that foreign investors and funds can invest
in certain Brazilian assets on a tax-exempt basis. The so-called
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tax exempt for foreign investors who meet certain requirements.
FIDCs are similar to consumer loan securitizations elsewhere. They
are backed by trade receivables, credit cards, auto loans and similar
assets. As with securitizations in most other jurisdictions, the funds
are structured as bankruptcy remote vehicles and continue to
operate even if the source of the assets – e.g., a company that has
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averse investors have the choice of investing in FIDCs backed by
non-performing receivables.
FIDCs can be structured as either open- or closed-end funds.
They are often rated by rating agencies based on the competence
of the portfolio manager and credit support derived from a
senior-subordinated structure. The originator usually retains the
subordinated class of securities.
The market for FIDCs began in 2001 and accelerated in 2003 when
the government passed rules allowing different types of assets to
be securitized. FIDCs became popular with domestic corporations
seeking to raise capital by monetizing receivables because the local
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to access, depending on the size of the corporation and its own
credit risk. FIDCs can also give banks and credit card issuers that sell
receivables a way to free up their balance sheets to satisfy capital
requirements and to do more business, or just to anticipate their
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to the rates on corporate loans.
Transparency and accountability
In mid 2012, Brazil’s Comissão de Valores Mobiliários (CVM), the
country’s securities regulator, proposed amendments to the rules
governing FIDCs (Rule No. 356 of 17 December 2001, and No.
400 of 29 December 2003). The amendments are intended to
improve the governance and transparency of the funds, clarify the
governance responsibilities of the managers and service providers
and establish stricter accountability.
The CVM acted in response to some instances of fraud by FIDC
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These incidents were caused by the inability of investors to conduct
due diligence on their funds’ assets due to a lack of transparency.
Instead, they had to rely on asset managers who, in certain cases,
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Issuance of FIDCs slowed in 2012 due to news coverage of the
investor losses and fraud cases. Investors also saw some losses
caused by the seasoning of portfolios originated during 2009 and
2010, when lending standards were lax. This led to higher-thanexpected default rates in some FIDCs from that period.
However, in a report on Brazilian asset-backed securities issued
in May 20121, Standard & Poor’s reported that inclusion of new
transactions with stronger-than-average FIDC performance from
2009 and 2010 caused overall credit metrics to improve by the end
of 2011. The rating agency expects the FIDC loss rate to remain
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Brazilian Consumer Loan ABS Index: Credit Market Dynamics May Lead To Increased
Delinquencies in 2012, 22 May 2012.
1
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Brazilian receivable funds: an evolving investment opportunity
FIDC advantages
The receivable funds have a number of advantages. First, the
Brazilian government is loosening monetary policy to try to maintain
and increase the momentum of economic activity. It has lowered its
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from more than 10% to 7.5%, and could lower it further. The FIDCs
provide a way for investors to achieve their return objectives despite
the falling interest rate environment, as the assets comprising the
portfolio of the funds are, generally, acquired with a discount that
provides a much higher return over the time of the investment
when compared to the interest rates offered on federal government
and private securities. Moreover, because the portfolios usually
contain receivables from a diverse group of debtors, they have
less concentrated credit risk than an investor would bear from
purchasing a traditional corporate bond.
The currency issues faced by foreign investors in FIDCs are the same
as those they face when investing in other Brazilian securities or
other types of mutual funds available in the market. Investors can
either decide that they want the currency exposure, or they can
hedge it.
FIDC drawbacks
At this point, the most serious concern for investors is the continuing
lack of transparency into the quality of the receivables. One of the
reasons the CVM has acted to clarify the roles and responsibilities
of fund managers, originators and service providers is that there
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their sponsors. The CVM is concerned that Brazilian banks may be
selling sub-standard receivables to FIDCs that they own or otherwise
control.
As with some other types of securitizations, FIDCs bear prepayment
risk. Similar to mortgage securities, their assets exhibit negative
convexity, which means they lose value faster when rates go up than
they gain when rates go down. This is an asset pricing issue that
most investors will not be overly concerned about. However, it is
important to note that FIDCs will not behave exactly as other debt
instruments.
And, along with conventional default risk, FIDCs bear renegotiation
risk if the assets comprising the portfolio are not covered by an
obligation from the seller to replace them in case of default. If a loan
originator renegotiates a loan with a troubled borrower, and that
results in a lower interest rate, that will reduce the income stream
available to the FIDC. Paired with prepayment risk when economic
prospects improve, this renegotiation risk grows when the economy
declines.
Final thoughts
For investors and fund managers looking to purchase or launch
FIDCs, this may be a good time to evaluate the opportunity. The CVM
regulations regarding governance and transparency should raise
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from which to choose. If the regulations work as intended, and the
economic and credit environment cooperates, FIDCs could open the
Brazilian market to a new constituency of foreign investors.
Nevertheless, investors’ due diligence process for FIDCs and
their investment managers is very important, in particular to
foreign investors seeking to acquire shares of a FIDC. An in-depth
understanding of the type of receivables that will comprise a fund’s
portfolio (i.e., corporate loans, trade receivables or personal and
auto loans) is an absolute must have. Investors should also analyze
the economic scenario to understand the potential risks of the
segment in which the debtors are operating. Given the duration of
many FIDC portfolios, it is important to gain this knowledge of the
local market, and in particular, the quality of the receivables, before
getting on board.
Brazilian receivable funds: an evolving investment opportunity
3
If you would like further information, please contact:
Authors
Flavio Peppe
Partner, Brazil
Ernst & Young Terco
Auditores Independente S.S.
Eduardo Wellichen
Partner, Brazil
Ernst & Young Terco
Auditores Independente S.S.
Tel: +55 11 2573 3290
Email: [email protected]
Tel: +55 11 2573 3293
Email: [email protected]
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Brazilian receivable funds: an evolving investment opportunity