Latin America | Emerging Markets Regional Review
After years of strong growth, many key markets in Latin America are faltering. Although overall the region is no longer producing the high growth it once did, a number of markets continue to rise to new heights.
Latin America was flying high after the 2008‒2009 global crisis as one of the world’s leading emerging markets regions. But many analysts believe the boom may be over. The IMF in October cut its 2014 GDP growth forecast for the region to a meager 1.3%, down from a 2% forecast in July, while predicting a modest 2015 rise to 2.2%. However, analysts say investors will still seek opportunities there.
The IMF blamed declining commodity prices and policy uncertainty in many markets for the outlook deterioration. “Economic growth in Latin America and the Caribbean has slowed more than anticipated, as weak growth in South America has outweighed an incipient recovery in Mexico,” says the IMF, which contends external volatilities, especially faster-than-expected US interest rate hikes, could pose further challenges.
Brazil, the region’s largest market, has slowed significantly. GDP growth averaged 4.2% in 2003‒2008, but fell to 2.1% in 2011‒2013. Standard & Poor’s expects the economy to grow at a rate of less than 1% this year and less than 2% in 2015. The Central Bank of Brazil’s survey of private-sector analysts says growth will be 0.24% in 2014 and 1% in 2015.
Analysts in the same survey predict Brazilian inflation will end above 6% in both 2014 and 2015, at the top of the official target band, while the benchmark Selic interest rate will rise to 12% by end-2015, from 11.5%. Policymakers unexpectedly increased the Selic in October for the first time since April, in a bid to curb inflation.
Following her narrow reelection in October, Brazilian president Dilma Rousseff vowed to push through pending structural reforms to reignite growth during her second term, which begins January 1. Rousseff says she will “continue to fight inflation and make improvements in the field of fiscal responsibility.” Investors remain skeptical of the populist president’s promises, as witnessed by the sharp drop in the Bovespa stock index following news of her reelection—a drop that wiped out year-to-date gains.
“President Rousseff faces the challenges of restoring economic growth, removing obstacles to greater investment, controlling inflation and attending to growing demands for better public services,” says an S&P report. The rating agency notes the government will also have to simultaneously deal with social pressures.
S&P puts Brazil’s sovereign rating at one level above junk, while Moody’s cut its outlook to negative. “We could raise the ratings if the administration pursues more consistent policy initiatives to strengthen fiscal accounts or a more proactive reform agenda to improve the country’s medium-term growth outlook,” says S&P.
“What most investors miss is that Brazil’s vulnerability extends beyond its ties to commodity exports,” says Michelle Gibley, director of international research at the Charles Schwab Center for Financial Research. “Brazil’s inflation heats up even when growth is slow,” she adds, “because the workforce and infrastructure are already at capacity. Government spending geared toward improving education and infrastructure would provide long-term benefits and is preferred over the populist measures that contribute to the inflation problem and have more-short-term benefits.” Gibley argues persistent inflation hinders the central bank’s ability to provide stimulus amid an economic slowdown.
Fred Campos, director of transaction advisory services at BDO USA, says Brazil’s situation could be appealing. “Lower valuation multiples that currently exist as a result of the stronger US dollar and a deceleration of Brazil’s economy make the market attractive for some companies with a long-term view of the market.”
For Brazilian players, the reality may be different. “During the high-growth years of 2008‒2011, Brazilian companies took on significant amounts of US dollar-denominated debt to finance expansion projects,” notes Josh Pristaw, senior managing director at GTIS Partners, the largest foreign real estate investor in Brazil. “A significant amount of foreign debt is now coming due, and limited capital is available for refinancing, causing serious balance sheet issues for many Brazilian companies.” Pristaw believes liquidity issues will lead to elevated distress levels that will bring motivated sellers to market.
“The combination of slower growth and debt/liquidity constraints are creating a distressed investment opportunity for well-capitalized investors,” says Pristaw. “What separates Brazil from other distressed economies, particularly in Southern Europe, is that Brazil’s downturn is cyclical, and the long-term drivers—such as positive demographics, a resource-rich economy and the rise of the middle class—are still in place.”