Navigating turbulent waters

Dear investors,

We ended 2025 with a return of 38.76% in the Ártica Long Term FIA, almost 5% above the IBOV's 33.95%, but it wasn't a period of great excitement or good humor in Brazil. Even with the stock market rising, the equity fund industry experienced negative capital flow, as most investors preferred to migrate to fixed income, attracted by the fixed rates of the CDI, which yielded 14.25% for the year. As the old proverb says: fortune favors the bold. However, the real lesson of 2025 is how difficult it is to predict what will happen in the market.

This new year will also be a difficult period. The political tension surrounding the elections tends to capture too much attention and inflate the importance of the topic in investment decisions. Consequently, the market is likely to fluctuate according to election polls and sophisticated political analyses, whether well-founded or not. This backdrop is not bad for investing. Turbulence often generates good opportunities. However, it is essential to remain calm and rational so as not to be swayed by collective emotions.

The role of luck

There are principles that are easy to understand but difficult to fully internalize. One of them is that the return on each individual investment depends as much on the quality of the decision as on luck. This reality is inescapable because investment analyses always result in rough probabilistic conclusions, never in categorical statements. A rational investor should allocate capital to an opportunity with an 80% chance of generating good returns, but still depends on luck to avoid the 20% chance of the investment going wrong. This creates some inconveniences.

Separating skill from luck in investing is not easy and takes time. A good investor can have bad luck and poor returns for several years, just as a less skilled investor can have an excellent season through sheer luck. Short-term returns are not a good predictor of skill. Only over several years and multiple investments does statistics tend to show that the quality of decisions prevails.

The problem is that human psychology isn't adapted for the long term. Instinctively, the strategy that's currently making money is considered good, and the one that's losing money is considered bad. Without due care, the good method affected by bad luck might be abandoned, and the bad method rescued by luck might receive more capital. It's important to understand that whoever won the Mega-Sena lottery isn't a genius. Copying their wealth-building method or hiring them as a lottery number selection consultant are both strategies doomed to failure. The best approach is to find the method that produces good average results when used in a large number of decisions.

In our experience, a good strategy is to focus on factors that can be predicted with a reasonable degree of accuracy and limit exposure to those that are completely random. It's also necessary to properly estimate the impact each factor can have on each business, so that more attention is devoted to what is critical.

Let's apply these concepts to our current practical case: the election year in Brazil.

The election year

In election years, certain patterns tend to repeat themselves. The closer we get to election day, the more exaggerated and bipolar the analyses of each side's victory scenarios tend to become when disseminated to the public. This is an inevitable campaign strategy. If you want to convince more people to vote for your candidate, the best approach is to say that their victory will cure all ills and that their opponent's victory would lead to complete ruin. The more sophisticated audience only consumes this discourse in a more elaborate and minimally coherent format, but the essence remains.

Another pattern is that election-related issues dominate public discussion, overshadowing less immediate events, even those with a greater and more lasting impact. At some point, the tone of newspaper headlines and market reports makes it seem as if the election results are all that matter for the country's future, but some reflection is warranted.

The outcome of elections is difficult to predict, even during campaigns and with the results of electoral polls in hand. With so much advance notice and without even knowing the candidates, attempts at prediction are purely speculative.

The future of most businesses is not usually defined by government policies, except for government-controlled companies or those under strong regulation that suffer very extreme measures. For the entire agribusiness sector, the climate in the coming years tends to be more impactful than the outcome of elections. Even for Petrobras, a classic example of a Brazilian state-owned company, the price of oil tends to matter more than who will be the next president.

Finally, when estimating the value of a company, we bring to present value the cash flow generated by it from now until the end of time. The most recent years have a greater weight in the value of the business, but even so, the next 4 years will hardly account for more than one-fifth of the total value.

We believe that this year, much of the market's attention will be focused on something unpredictable and with less impact than it appears. Amidst all this noise, those who follow the classic strategy will have an advantage: maintaining focus on the most relevant microeconomic fundamentals for each business in the long term.

Despite all this preamble, we will share our vision for the future of Brazil.

Expectations for Brazil

We don't really have a strong opinion on who will win the elections. There's a global political trend favoring conservative right-wing parties. On the other hand, the Brazilian left is better prepared for political campaigns, and the PT (Workers' Party) has won 5 of the last 6 elections. Therefore, we prefer to reflect on points that depend less on this binary outcome.

The current government has a strong incentive to try to improve the economy in the short term, at least in areas where there is a greater perception of improvement, because the population prefers reelection when they want a continuation of what they experienced in the recent past. Thus, it is likely that in 2026 we will see the implementation of populist measures that will take their toll in the following years.

The next president will have to deal with the problem of fiscal imbalance. The economists' favorite solution is fiscal austerity, but the politicians' favorite is to pressure the central bank to print more money and finance public spending. Right-wing governments are more likely to opt for austerity, while left-wing governments tend to resort to the second alternative, which inevitably generates inflation. In any case, it is not an easy problem to deal with, and a note of caution remains for fixed-income investors. In inflationary environments, securities denominated in current currency (any type of credit) suffer more than real assets (stocks, real estate, commodities).

One point of attention is diplomacy related to international trade agreements, which may have a greater impact on our economy than local intrigues. Global geopolitics is reorganizing, and there are opportunities for Brazil, historically quite closed off, to intensify its foreign trade. For example, we are close to finalizing a free trade agreement between Mercosur and the European Union, a discussion that has been ongoing for decades. If successful, it would be excellent for Brazilian exporters, especially in the agricultural sector. Despite the weight of the potential agreement, it has received little media coverage and little public discussion. We are somewhat hesitant because Brazil has a long history of wasting this type of opportunity, and we perceive a certain eagerness on the part of the government to position itself on international issues where the country has more to lose than to gain. However, we hope that, in the future, Brazil will leverage its neutral position to become more relevant in global trade and, perhaps one day, develop higher value-added industrial sectors.

How are we positioned?

In this uncertain scenario, and anticipating a period of turbulence ahead, we intend to maintain our investments in defensive businesses that are not heavily dependent on government policies and whose market prices are considerably depreciated.

Despite the rise in the Brazilian stock market last year, the movement was not common to all companies. Several of them continue to receive little attention from investors and seem to us to be undervalued. In recent quarters, we have reallocated more than half of our portfolios and today we see a very attractive potential for appreciation in our invested companies.

Even when investing in good companies, we believe that political volatility will be inevitable. We will not make any investment decisions based on election speculation. Our approach will be to keep our analyses updated on companies already in our portfolio and a group of other well-selected companies, ready to act quickly if any bump in stock prices creates atypically good opportunities to buy or sell something.

Finally, the entire management team retains the majority of their personal investments in our equity funds. We believe we are far from seeing the Brazilian stock market overheated, so there is still much return to be captured by investing in local companies. In parallel, we continue to expand our coverage of foreign companies, as a precaution against a possible future in which Brazil ceases to have as many attractive opportunities as we see now.