Scott Piper, Portfolio Manager for the Excel Latin American Fund, write’s in his paper “The long-term case for Latin American Equities” states that risk across all markets are more differentiated than investors think and outlines Latin America’s equity market potential through the region’s differentiated growth and risk profile relative to the rest of the world.
Latin America has significant micro-based structural improvements that originated from a series economic crisis in the region during the 1990s. During this time, keen market discipline was established by corporations in Latin America. In order to survive the crisis, corporations adopted better capital discipline, global account standards and eliminated multi-class share structures. Evidence in better corporate discipline is displayed by the fat that corporates now distribute over 40% of profits in the form of dividends. The aggregate dividend for the region now stands at 4% vs. just 2% for the S&P 500 index.
Mr. Piper goes on to mention that the structural reduction in systematic risk in the region should mean higher multiples for equities with lower volatility. However, Latin American equity markets have instead continued to trade in lock-step with global equity markets. Latin American equity markets have a healthy banking system, strong economic indicators and have outpaced not only developed markets but also Asia and Emerging Europe. Unfortunately, the equity market continues to be held prisoner by global economic concerns today. This has led to a perception that the region is nothing more than a leveraged play on global growth and commodities. As a result, the region’s structural improvements and attractive growth profile continue to be under-appreciated.
Mr. Piper believes the perception will change as the primary catalyst for a re-rating of the region’s equity markets lies in the upcoming tremendous change in domestic capital markets. Currently elevated correlations with global markets are due to very high foreign ownership in Latin America’s equity markets. However a growing base of domestic assets due to the region’s low savings rate, favourable demographics and rising urbanization will change this dynamic overtime. Additionally, a shift towards equity ownership could serve to both dramatically improve market multiples and reduce volatility, therefore reducing correlations with global capital markets.
The report highlights that Latin American equities have produced strong returns over the last ten years. It also points that rising fixed capital formation will allow GDP growth rates to increase well above the developed world. GDP growth had previously been limited by the lack of investment spending. This issue will fix itself due to falling interest rates and a slew of upcoming events such as the world cup. Not only will this generate tremendous opportunities for a wide range of companies, it can also dampen cyclical inflation effects. Investment-led growth is only just beginning in Latin America. The report concludes that Latin America is very different from that of other emerging markets. Latin America is poised for attractive risk-adjusted returns in the future and that Latin America equities look poised to out-perform.
Full White Paper: Investing in Latin American Equities