ETFs to Play Strong Brazilian Banks

NEW YORK (TheStreet) -- As Brazil continues to witness stellar economic growth, its financial sector appears to show signs of optimism.

First, Brazil has a healthy balance sheet. Public sector debt is roughly 40% of gross domestic product and the average capital adequacy ratio of Brazilian banks is 18.2%, as compared to 14.3% in the United States and 10% in China, according to a report from Bank Of America.

Additionally, Liam Denning of the Wall Street Journal states that Brazil is under-banked with outstanding mortgages equating to a mere 3% of GDP. This compares to 72% in the U.S. and 18% in China. Additionally, deposits equate to 40% of GDP in Brazil, compared with 57% of GDP in the U.S. and more than 100% of GDP in China.

Another reason Brazilian banks are appealing is the robust expansion of the nation's middle class. In fact, Credit Suisse estimates that over the past five years nearly 22 million people have been added to Brazil's middle class; that is expected to continue to grow as the nation continues to prosper. This increased wealth translates to higher disposable incomes which lead to an increased number of people acquiring the accoutrements of middle-class life, which further leads to an increased number of people requiring financing to obtain goods and services. In fact, overall lending during the first half of 2010 has increased 19.7% in Brazil.

A fourth reason that Brazilian banks are attractive is that they remain relatively cheap. Brazil's third-largest banking branch network, Banco Bradesco , is trading at roughly two times 2011 book value , whereas, small Brazilian banks are trading at an average of 1.1 times 2011 book value.

Lastly, economic factors such as inflation, the labor market and defaults on consumer loans continue to abate. Real interest rates are among the highest in the world at nearly 6%, the unemployment rate continues to fall, currently at 7%, and the percentage of personal loans which are 90 days or more past due continues to decline, reaching 6.6% in June.

Some ways to play Brazilian banks include the following:

• Global X Brazil Financials ETF(BRAF), which is a pure play on Brazilian financial firms.
• iShares MSCI Brazil(EWZ), which allocates 22.81% of its assets to financials.
• Market Vectors Brazil Small-Cap ETF(BRF), which allocates nearly 21.6% of its assets to the financial sector.