Standard & Poor's (S&P) on Tuesday said Brazil could lose its coveted investment-grade rating in the coming year if fallout from a number of corruption investigations further stymies economic growth and implementation of austerity measures.
The warning is a setback to Finance Minister Joaquim Levy's efforts to win back investor confidence in Latin America's largest economy, headed to a steep recession.
S&P affirmed Brazil at BBB-minus, its lowest investment grade rating, and revised the outlook on that rating from stable to negative, signaling a downgrade is possible over 12 to 18 months.
The Brazilian real slid 2 percent after S&P's announcement to 3.43 per dollar, the weakest in more than 12 years. It trimmed most of those losses to close at 3.37 after the ratings agency's analysts said the country could still head off a downgrade.
"We're assuming an even weaker fiscal story [in 2016], but we're also assuming that it will improve and that Brazil will avoid a rating downgrade," S&P analyst Lisa Schineller said on a conference call, citing the example of India.
India, also rated at BBB-minus by S&P, last year avoided a downgrade to junk after Prime Minister Narendra Modi unveiled an ambitious reform agenda.
Still, Schineller said there was a significant risk that Congress may not approve the austerity policies.
Investors said the threatened downgrade should be a wake-up call to the government.
Loss of the investment-grade rating would boost financing costs for Brazil's government and companies. It also would hurt dollar inflows to the country, since many investors are barred from buying junk-rated securities.
S&P was the first of the Big Three ratings agencies to raise questions about Brazil's investment grade. Both Moody's Investors Service and Fitch Ratings have the country at BBB, two notches above junk, with a negative outlook.