RESEARCH

Risks and

Rewards in

Latin America

March 15, 2019

Investors signaled fresh confidence in emerging markets (EM) at a flagship J.P. Morgan event, with a poll revealing most attendees planned to keep or increase EM allocation.

Marking its 10th anniversary, the Global Emerging Markets Corporate Conference gathered some 350 investors and 140 corporates for panel sessions and one-on-one meetings in Miami. The popularity of the J.P. Morgan event has tracked the growth of the asset class, which expanded from about $600 billion in early 2010 to $2.2 trillion currently.

In terms of risks, rising U.S. Treasury yields and a stronger U.S. dollar were cited as concerns, despite a recent dovish pivot by the Federal Reserve that has produced a favorable EM climate. A majority of attendees expect one interest rate hike this year by the Fed.

Latin America proved a particular focus for positive sentiment, with more than half of participants ranking it as the region in which they would likely increase corporate fixed income investment this year. This compared to a third of EM investors choosing Europe and a quarter opting for Asia.

On a country level, corporates from Brazil and Argentina were expected to provide the best returns globally in 2019 while Mexico ranked last.

From panel discussions with public officials, thought leaders and J.P. Morgan experts at the event, we examine the trends in four key Latin American countries.

Bullish on Brazil

With 37% of investors expecting Brazilian corporates to provide the best returns this year, Latin America’s largest economy remains a sector champion. Dominating the agenda for 2019 is Brazil’s highly anticipated Social Security reform, which sees the government proposing pension cuts to ease fiscal pressure.

Panelists agreed the reform would likely be approved by Congress in the second half of this year, but some expressed concern that the final version would be diluted, reducing its fiscal impact. However overall a consensus view was that conditions had never been as favorable: Opposition parties are weakened and the population is familiar with the reform after three years of discussion. President Jair Bolsonaro remains popular, but a possible future decline in his approval rating was cited as a risk.

37% of investors expect Brazilian corporates to provide the best returns this year

In terms of the economy, experts were divided: Some pointed to fiscal crises in certain states holding back public spending and economic growth. Others suggested Brazilian corporates and consumers had successfully deleveraged and credit growth was picking up with expectations of future IPO and M&A activity.

A Pivotal Election in Argentina

2019 sees Argentina go to the polls with President Mauricio Macri seeking re-election facing significant headwinds in Latin America’s third largest economy: Consumer confidence is at its lowest level since 2002, while employment, inflation and poverty data have all deteriorated since Macri took office – impacting his approval ratings.

Despite these unfavorable conditions, political consultants said Macri remains the favorite to win the election in October. This can be partly explained by the composition of Argentina’s electorate: A third of voters are supporters of former leftist President Cristina Fernandez de Kirchner, a third are pro-Macri and a third are undecided. If Macri can maintain his core support, he can move to the second round and defeat Kirchner, who remains a polarizing figure but the most powerful of the Peronist leaders. If the Peronist factions could agree on a more moderate candidate, consultants said Macri would likely be defeated.

His re-election would pave the way for a greater opening of Argentina’s economy and possible free trade deals, according to the experts. If Kirchner leads the election, panelists said she would likely compromise on some political ideals to attract needed investment in energy pipelines. Both candidates will likely have limited room for maneuver given the macro conditions facing Argentina.

The Mexico Risks

With a third of investors highlighting Mexico as the EM country with the weakest expected returns this year, there are heightened concerns about a number of risk scenarios. Panelists discussing Latin America’s second largest economy pointed to several measures the new administration of President Andres Manuel Lopez Obrador has taken that are considered unfavorable to business sentiment. The administration has moved to consolidate power around the executive, they said, and there is a perceived lack of checks and balances.

Experts also discussed the ‘nationalistic’ energy policy of Lopez Obrador, which seeks to have the state oil company Pemex dominate the entire hydrocarbon value chain. His presidency follows a landmark energy reform in 2013 that opened up Mexico’s industry to foreign investment and dismantled the state oil monopoly. The new focus on energy sovereignty, panelists said, could mean it is prioritized over the needs of the economy.

Fitch ratings recently downgraded Pemex to BBB- and a further downgrade to junk status was seen as likely. The energy company is struggling to maintain oil output which sets the stage for an upward leverage trend, with inefficient overhead costs and high taxes also contributing. One option for the company to stabilize output would be to engage partners in the private sector although this has been ruled out by management and is unlikely to change in the current environment. Experts said a proposed government safety net for Pemex’s finances might not come before the situation deteriorates.

Mexico’s sovereign rating is also on a negative outlook and a downgrade could be triggered by Pemex or other factors.

Venezuela in Limbo

Panelists described a fragile stalemate now hanging over Venezuela, owner of the world’s largest oil reserves.

Anticipation of regime change and an easing of the humanitarian crisis had grown after the U.S. levied sanctions on state oil company PDVSA and a number of countries recognized Juan Guiado as president. However Nicolas Maduro has since strengthened his position and the armed forces rejected offers of amnesty to end their allegiance to his government – causing experts to express pessimism in the near term. Diplomatic and economic pressure is seen as less effective against the Maduro regime and that there is no political support in the international community for military intervention at this juncture.

One panelist highlighted the oil industry as the key to Venezuela’s future recovery after Maduro and produced a report outlining the scale of economic activity: With a future target of 3 million barrels a day – from 1.1 million this year – the country would need to increase active rigs from 30 to 124, requiring total capital expenditure of between $7.5 – 11 billion a year.

What’s Next for Venezuela?

J.P. Morgan examines the implications of the latest developments in Venezuela, owner of the world’s largest oil reserves.

View more about What’s Next for Venezuela?

Your local partner in Latin America

Learn more about J.P. Morgan’s Latin American regional offering combining the people, tools, products and capital to connect you to opportunities around the world for over 150 years.

View more about Your local partner in Latin America

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J.P. Morgan Research offers their key market and economy calls for 2019.

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