Merrill Lynch Predicts Real will drop

[imrthr]

Currency Strategists: Merrill Says Brazilian Real May Decline

Dec. 27 (Bloomberg) -- Brazil's real, the world's best performer against the dollar this year, may drop in 2006 on concern over lower interest rates and the outcome of presidential elections, according to Merrill Lynch & Co.

 

``We believe that the real will weaken into the second quarter as a result of further policy easing,'' wrote Daniel Tenengauzer, an emerging markets currency strategist based in New York for Merrill, in a research note on Dec. 20. ``The presidential elections will add uncertainty.''

 

The central bank is likely to add to its series of four rate cuts this year, which have taken borrowing costs down to an 11- month low, as inflation slows, Tenengauzer added. The real may be further undermined by a drop in popularity ratings for President Luiz Inacio Lula da Silva's government to an all-time low.

 

Tenengauzer predicts the real will fall to 2.65 versus the dollar by September, from 2.31 at 8:54 a.m. in London. Brazil's currency has risen 14.6 percent this year and is poised for its third consecutive annual gain.

 

Tenengauzer wasn't immediately available to comment on the report. Parag Ramaiya, a currency strategist at Merrill in New York, confirmed the contents of his note. Merrill is the sixth- biggest currency trader, according to an April Euromoney survey.

 

Brazil's central bank cut the benchmark lending rate by half a percentage point to 18 percent on Dec. 14, taking borrowing costs down 1.75 percentage points from a two-year high in September. Merrill forecasts interest rates will be reduced to 15.25 percent by the end of next year.

 

Slowing Inflation

 

The annual inflation rate fell to 5.88 percent in mid- December from 6.36 percent in November, the government said Dec. 22. Economists expect inflation to slow to 4.5 percent by the end of next year, in line with the central bank's target, according to the median estimate in a central bank survey of about 100 financial institutions published Dec. 26.

 

The interest-rate gap with the U.S. may narrow as Brazil's central bank reduces rates at the same time the Federal Reserve is putting up borrowing costs, according to Bank of America Corp.