Stressed Out: Petrobras and Vale Feel the Full Force of Brazil's Crisis

 | Mar 18, 2016 | 8:00 AM EDT
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This article is part of a Real Money series on 20 companies investors should consider adding to their distressed watch list.

It was a good day for these two heavily tested stocks on Thursday: Petrobras (PBR) surged almost 10%, while Vale (VALE) closed up a little over 6%.

However, it doesn't look like the two companies, which are part of our "Stressed Out" list of firms that could get into trouble because of their big debts, have a smooth ride ahead. In addition to their own, company-specific problems, these two commodity giants have become bellwethers for Brazil's political crisis, too.

The new turn in the saga of former president Luiz Lula da Silva, in which a judge blocked his nomination to a position that would have protected him from prosecution for a while, was seen by the markets as a positive development. This is because investors believe a change in government would be good for Brazil as it would mean fiscal reform and a better business environment.

Dilma Rousseff, Lula's mentee and successor, is one of the least popular presidents Latin America's biggest country has ever had. Last Wednesday, she appointed Lula as her chief of staff. According to Brazilian law, from this position he can only be prosecuted with the approval of the Supreme Court. But either he or Rousseff have appointed several members of that court throughout the years, so an approval looks highly unlikely.

Lula faces charges of money laundering and fraud in the corruption scandal involving Petrobras, allegations that he denies.

The state-owned oil giant's stock jumped by 9% at the beginning of this month when Lula was briefly detained for questioning, in a sign that investors want, more than anything, a resolution to the corruption scandal that has dragged on for two years.

Yesterday, in dramatic scenes resembling a political thriller, a judge issued an injunction suspending Lula's appointment, just as the appointment ceremony was drawing to a close. The judge's decision, motivated by the fact that the appointment would prevent the free exercise of justice, triggered clashes in the Brazilian parliament and on the streets.

The fact that Petrobras and Vale's shares jumped again shows that investors really want the corruption investigation to go ahead and believe Lula's involvement increases the chances that Rousseff herself -- who denies any wrongdoing -- is impeached.

Another positive for the two companies is the fact that commodity prices are off their lows, and this takes some of the pressure off when it comes to cutting costs and meeting debt obligations.

In fact, as Real Money's sister publication The Deal reported earlier this month, Vale is even taking advantage of competitors' weaknesses to consolidate its own position. It signed an agreement with Australia's Fortescue that could see it buy up to 15% of the Australian miner's shares.

The Deal: Brazil's Vale Eyes Australian Assets After Striking Fortescue Deal

Analysts at Bank of America Merrill Lynch wrote in a recent report that "a resolution to the political paralysis could bring confidence back up quickly and improve the economic backdrop."

If this happens and if there is stronger fiscal adjustment this year, they predict that Brazil could start to recover from its worst recession since the Great Depression in the second quarter.

"On the downside, pressures on GDP could increase if the political scenario deteriorates further, with the government failing to approve fiscal measures" and if Brazil shifts to a more unorthodox fiscal policy, the analysts added.

A worsening of the political scenario is not hard to imagine. While thousands of Brazilians celebrated the judge's decision on the streets, Rousseff accused another judge -- who made public the content of wiretap recordings of her and Lula discussing his nomination -- of "selective leaks," adding: "This is how coups start."

For more on Real Money's 20 distressed companies to watch:

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