After a fleeting March correction, Latin America is still an attractive investment. Growth is respectable, stability is widespread and reserves are overflowing. Latin firms are buying in Canada and Australia, domestic markets thrive, and the future looks rosy as we enter a new phase of development. But step back and look at the big picture: the region is only keeping its head above water.
Consider BRIC, the Brazil, Russia, India and China quartet. This misleading acronym for four entirely different markets is also a useful yardstick to measure regional progress. For a global emerging markets portfolio manager, it’s all relative. Brazil’s fat rates are better than anywhere in the world. But they are a short term punt and less attractive as the carry evaporates. Non-Latin markets are emerging much faster and promise greater long term upside.
Brazil may have stronger institutions and a relatively advanced judicial system, especially versus China. It also has solid primary industries, aerospace capabilities and a major role to play in the biofuels boom. Domestic markets are picking up and the economy is more balanced. Brazil has progressed. But at some point, the B just dropped off BRIC.
Brazil’s labor force is relatively uneducated and expensive, while technology is nowhere near as advanced as India’s, for example. Brazil, and much of Latin America, have failed to spend enough on infrastructure. The debt load is too high, interest rates are choking the corporate sector, and inefficient taxation must be reformed.
Brazil is increasingly conspicuous in the BRIC bloc by its inability to keep up. Having come this far, it’s tempting to limp along in mediocrity and complacency. But Latin America has the best chance in decades to raise its game. Past crises are behind it and the resources and talent are there to raise its profile on the world stage.
Is it enough to target 3% growth, or should Latin policy makers be running with the RICs, which are forecast to expand by 7%-10% in 2007? It’s time to emerge from a regional rut and truly compete.
Let’s Trade
Underpinning Latin economic triumphs are rapidly evolving domestic capital markets. Companies can raise more longer-dated funds in their own currencies than ever before. Local investors bag higher yields and more portfolio diversification as a result. The lack of any real secondary flow, however, blocks the way forward.
Brazilian domestic trade is limited to government bonds, which are setting valuable but neglected benchmarks. Corporate deals are still relatively small and easily absorbed by the underwriters and other buy-and-hold types who would never consider selling at a discount. There is a lack of standard contracts and transparent pricing, and the tax treatment is damaging. Dedicated research is limited.
On the supply side, firm commitments and low volume take away the incentives to bring new issuers and bigger trades. Three years ago it would have been unthinkable to raise $2.6 billion in the reais market, as CVRD did in December. But that may end up being a one off. Memories of fallout from previous crises mean that banks are taking a once bitten, twice shy approach.
The government must cut an arbitrary and uncollected tax on foreign investors who want to participate in the corporate market. Overseas investors blazed a trail in government bonds, where the tax was recently dropped. They are more willing to take risk through longer tenors, lower rated debt and active trading. Latin America’s infant secondary markets should welcome their business as a means to acquiring a trading culture.