Latin American Markets Aim for a New Decade of Gains
CVRD, via Reuters
By CONRAD DE AENLLE
Published: April 7, 2012
STOCK markets in much of the world may have suffered a lost decade, but there was much to gain by investing in Latin America.
A vigorous and persistent economic and political renaissance, especially inBrazil, produced annualized returns of 17.1 percent for funds that focus on the region during the 10 years through March, including a 13.3 percent return in the first quarter of this year.
Another decade like that may be too much to hope for, and fund managers who concentrate on emerging economies highlight a handful of potential challenges for Latin American markets. The markets can be volatile too; they fell sharply in 2008 and more moderately in 2011. Still, continued success is widely expected for the region and for investors who keep their money there for the long haul.
Rick Schmidt, a manager of the Harding Loevner Emerging Markets fund, attributed the run of phenomenal performance to “two and a half stories.” One is sustained, strong economic growth across the developing world. Significant growth of another sort — in democratic political institutions and sound economic management — was an even greater contributor to success, in his view.
“The countries that made changes to more open markets and to developing their middle class saw the greatest returns,” Mr. Schmidt said.
His other favorable circumstance, or half of one, was a lucky coincidence. The economic and currency crisis that began in Asia in 1997 moved on to Russia a year later and then to Latin America. Markets there bottomed almost exactly 10 years ago, he noted, making the returns since then look especially robust.
Gonzalo Pangaro, head of the emerging-markets group at T. Rowe Price, also mentioned improvement in leadership in Latin America, and said it extended from government ministries to corporate boardrooms.
“Most governments, including the key ones in Brazil and Mexico, have implemented very sensible macroeconomic policies — fiscal prudence, controlling inflation — and public companies tend to be of very good quality,” he said. “The quality of management and protection of minority shareholders are right up there, and growth opportunities are as good as you can find in some of the fast-growing Asian countries.”
The healthy increase in profits at Latin American companies has kept valuations reasonable, even as markets have continued to soar. Stocks in Brazil, the region’s dominant market, recently traded at about 10 times earnings, compared with a multiple of about 13 for the Standard & Poor’s 500-stock index in the United States.
Good management is crucial for maintaining robust profits, and so are good customers. Fund managers find plenty of those in Latin America, where growing demand for products and services from increasingly well-off people is helping to transform economies and businesses.
“Seventy percent of Brazil is middle class or higher, and they’re active consumers,” said William Landers, manager of the BlackRock Latin America fund.
Many of investors’ favored stocks in the region are of companies that cater to consumer needs and wants, particularly Brazilian banks and real estate developers. Housing is in short supply in Brazil, portfolio managers say, and a government program in which employers make regular contributions to subsidize employees’ mortgages should keep demand high for homes and financing.
Mr. Landers likes Banco Itaú and the home builder PDG Realty, which he credits with having “one of the better managements in the sector.”
Mr. Schmidt, meanwhile, holds Itaú and one of its main rivals, Banco Bradesco. Mr. Pangaro casts a third vote for Brazilian banks, especially Itaú, which he called “a very well-run bank with very good profitability.”
Jonas Krumplys, manager of the Ivy Asset Strategy New Opportunities fund, holds a broad range of stocks tied to Brazilian real estate, including home builders and developers of shopping malls and warehouses. One company outside Brazil that he expects to benefit from the expansion of the Latin American middle class is Copa Airlines, which is doing brisk business flying passengers between North and South America via its base in Panama.
Apart from banks, Mr. Schmidt recommends the brewers Ambev of Brazil and Femsa of Mexico, along with Coca-Cola Femsa, an affiliate of Femsa and Coca-Cola.
One sector not on managers’ favored list is telecommunications. Use of cellphones and the Internet is much lower in Latin America than in mature economies, leaving great scope for growth, but managers find too many companies competing to offer services.
As for the two Brazilian commodity producers that are the largest contributors to regional stock indexes — the oil company Petrobras and the iron ore mining company CVRD — investors tend to be indifferent. Although Mr. Pangaro considers Petrobras stock as inexpensive, the two stocks are widely seen as vulnerable to a slowdown in global growth.
Investment advisers agree that Latin America has made spectacular progress in the last 10 to 20 years and, with exceptions, has recovered from the instability that once plagued the region. They caution, though, that investors may still face challenges in coming months, though of the run-of-the-mill variety that afflict economies and markets everywhere.
Inflation has been about 5 percent a year in Brazil. That is nothing like the rates in the 1980s, when they reached percentages in the tens of thousands, but Mr. Landers cited mounting concern that politics, not just economics, would begin to guide decisions by Brazil’s central bank, leading to lax monetary policy.
The concern may be justified, given history, but he said he expected inflation — and central bankers — to remain well behaved.
The Brazilians “have worked so hard to get where they are,” he said. “If inflation comes back, the whole domestic growth trend starts to go the other way, the middle class loses purchasing power and the domestic growth story is called into question.”
Mr. Krumplys is less optimistic that the problem can be sidestepped.
“Brazil is probably going to have an inflation problem in the second half of this year,” he predicted.
He identified several chronic impediments to long-term progress in Brazil, too, including high tax rates, deficient transportation and other infrastructure and a poor education system.
AS worrisome as such developments might be, however, Latin America is on such a roll that having them lurking in investors’ thoughts could prove beneficial — by providing a vital measure of perspective and humility.
“The real domestic worry would be hubris, getting too successful and blowing what they made in the past,” Mr. Schmidt said. “That’s what always destroys markets. They get overstretched; they push themselves. They think the rules don’t apply to them and they go for too much growth. That never ends well.”