For decades, Chile was well positioned as one of Latin America’s most stable economies and was home to one of its most reliable equities markets. But nothing lasts forever, and this year growth is faltering amid waning global demand for copper, the country’s largest export. As a result, Latin America investors are losing confidence in their old standby and looking elsewhere for opportunities. Sadly, they’re not finding much. Across the board, the region’s equities markets are suffering from the end of a commodity boom, a lack of structural economic reforms, a slowdown in global emerging markets, and capital outflows ahead of an expected U.S. rate hike.
Consider Chile, for starters. The South American nation has long benefited from low levels of debt, a reliable currency and a stable political environment. But the country had all its economic eggs in one basket — copper accounts for 50 percent of the country’s exports. That overconcentration worked out just fine during the years that China, Chile’s largest trading partner, had an insatiable thirst for the commodity. But as China’s growth has slowed, it has slowed Chile’s along with it: the country’s economy is projected to grow just 1.9 percent this year, less than half the 4.1 percent of 2013. A loose monetary policy has helped, but it comes with its own costs, including a run-up in the inflation rate to 5 percent and a decline in the peso of 11 percent so far this year. The MSCI Chile index is down 12 percent since May.
In the past, Brazil might have picked up the slack. Not anymore. The former darling of the emerging markets is dealing with the highest annual inflation in almost three years, and an economy that entered a recession in the first half of this year. Even a victory for pro-business candidate Aecio Neves in the second round of presidential elections this month won’t be enough to significantly jumpstart the economy, according to Philipp Lisibach, Americas investment strategist for Credit Suisse’s Private Banking and Wealth Management division. Stocks did rally after Neves performed well in the first round, but the MSCI Brazil index has still fallen 13 percent since the start of September. To prevent a long-term slump, Brazil needs to make the economy more competitive by passing key tax and labor reforms. Unfortunately, that’s sure to be a slow process, and investors know it. Accordingly, corporate earnings growth over the next year looks to be a mere 12 percent, well below the 10-year average of 15.7 percent. “The fundamental picture continues to worsen and we don’t see it getting better anytime soon,” Lisibach says.
And what of Mexico, which earlier this year passed landmark reforms to open up its oil industry to private investment? That legislation—along with other recent reforms to the labor market, telecom sector and financial industry—could push GDP 1.7 percentage points higher to 4.5 percent over the medium term, according to Credit Suisse. The problem is that the energy reform has yet to be implemented. Lisibach says it’s prudent for investors to wait until private companies actually begin drilling to punctuate their enthusiasm with cold, hard cash. Stocks are also quite expensive, as investors have already priced in some of the projected benefit of the reforms. The 12-month forward price to earnings ratio for the country’s benchmark index is at 18.9, well above its 10-year average of 14.1, according to Credit Suisse.
The region’s smaller equities markets don’t present compelling alternatives, either. Argentina is in default and dealing with rising unemployment and shrinking purchasing power. Venezuela is at risk of further downgrades of its sovereign debt and inflation is forecast to reach 62.5 percent this year. Columbian stocks look attractive, trading at a price-to-book ratio of 1.6x — half their 10-year average – but the country is overly dependent on energy-related commodities, and the 13 percent drop in oil prices so far this year explains at least part of that bargain-basement valuation.
Instead of an intra-regional rotation, then, investors should probably consider reducing their overall allocation to Latin America. Credit Suisse has a cautious stance on equities in the region compared to other global emerging markets. “Unfortunately,” says Lisibach, “we don’t see any bright spots in Latin America at all.”
Photo of Santiago Stock Exchange courtesy of Alberto Loyo / Shutterstock.com.