By Chris Brinkmann, manager of the BlackRock Latin American trust
Last year was characterised by geopolitical conflict across the globe. These conflicts have no easy resolution. As the world continues to divide, those countries that can steer a middle path look set to reap the benefits in terms of trade, investment, and economic growth. Latin America should be in a prime position.
Economic and political power is shifting. It appears to be moving from a unipolar world, dominated by the US, to a multipolar world, where countries align with either the US or China depending on where their economic and military interests lie. This is likely to shape trading patterns and economic partnerships over the next decade.
There is however a third group. These are countries that are not aligned with either side. In our view, those countries are in a far better position to forge trading links, to gather foreign direct investment, and to source precious materials necessary for infrastructure building. Many Latin American countries recognise the advantages in steering a neutral path.
See also: Will bumpy inflation figures defer the interest rate cuts markets hope for?
Many countries in the region are already benefiting from this neutrality. Brazil is currently running one of the strongest trade balances it has had in 30 years. In 2023, it recorded a trade surplus of $99bn, which compares to $63bn in 2022, largely driven by strong export volumes and prices.
In Mexico, a range of international companies – including companies from the US and China – are setting up new plants as they seek to diversify their supply chains. Companies such as Tesla are harnessing local manufacturing know-how to expand there. This has helped drive economic growth. We believe there is more to come: Mexico now looks increasingly cost-competitive against China, with a lower minimum wage.
Interest rates
These changes should be a long-term tailwind for growth across Latin America, but there are also short-term supports for the region. Here, Latin America’s reputation for economic management is at odds with reality. Its central banks have managed inflationary pressures far more effectively than their Western peers. They were early to raise rates and are now in a position to bring them down.
The Brazilian central bank, for example, started hiking in early 2021, more than a year before the US Federal Reserve. Peru and Chile have also cut rates and we expect further cuts ahead. They are one of the few regions with positive real interest rates (where interest rates are ahead of inflation). This gives central banks significant room for manoeuvre. This should create positive momentum for economies in the region.
See also: FCA increases spending and aims to bolster UK stockmarket in 2024/25 business plans
The management of inflation has been a high point for the credibility and competence of economic management in the region. However, there have been concerns in Brazil that President Lula will waive fiscal discipline and enact significant social spending programmes.
Here too, reality has proved different to expectations. Lula’s party does not have a majority Congress and has been blocked in a number of his spending initiatives. It is also worth noting that Brazil has recently passed a landmark constitutional amendment focused on simplifying the country’s complex tax system. This may remove a significant disincentive for international companies investing in the region.
We are increasingly confident that the fiscal outlook in Brazil will be benign. The recent fiscal framework announced by the Brazilian government was more conservative than expected. Equally, it is worth noting that Brazil’s fiscal deficit is small relative to those of the US and UK. Countries across Latin America have generally proved more conservative than their reputation suggests.
Valuations
A final point in Latin America’s favour is that the stock market remains attractively valued relative to other emerging markets and to its developed market peers. The MSCI Latin America index trades on a price to earnings ratio of 8.9x, compared to 11.5x for the MSCI Emerging Markets and 16x for the MSCI World.
While price to earnings ratios are an imperfect measure of value, they can demonstrate when a market is out of favour. At the moment, there is the most value in Brazil, particularly in the consumer discretionary, retail and real estate sectors. These are likely to be the key beneficiaries of falling interest rates.
Latin America has often been underestimated by investors, yet its central banks have shown strong management through the pandemic and many of its policymakers are exercising restraint on fiscal spending. It is in a prime spot to take advantage of the shifting political landscape. We are optimistic for the year ahead.
See also: ‘No longer in need of life support’: Industry reacts to Japan’s first rate hike in 17 years
