LatAm… To the left, to the left

Guy: Tom, please tell us about your time living in South America.

Thomas: I studied abroad in college for 2 semesters in the Dominican Republic back in the early 90s and I liked being abroad so much that in 99, I moved more permanently to South America where I spent 4 years living in Argentina and then 10 years in Chile. While I was in Argentina, I went to work in MetLife’s latam investments office and as a sovereign analyst covering the latam region. I got to travel all over and have been to every country Met invests - probably 8 times on average.

Guy: That sounds exciting and I’m sure a great foundation for you personally and professionally. Can you describe some of the changes you that witnessed and how those experiences help you today as an EM portfolio manager?

Thomas: I still draw on those early experiences and contacts I made regularly. And it was a fascinating time to be working in the region, there was a lot going on. 99-02 was a rough patch with pretty big crises in several countries, most notably Argentina and Brazil, but that was followed up by a golden decade from 2003-2013 when latam really boomed. China was growing fast and becoming more relevant to the global economy and latam in particular, and simultaneously, most of the large latam countries committed to good macroeconomic policy. Along with that came upward ratings migration and lots of foreign investment. latam countries were growing at 5-7%, and you could see it through visible changes wherever you went. Significant infra buildout: roads, airports, power and sanitation infrastructure, shopping centers, supermarkets, office buildings, also world class investment in mining, energy, pulp mills, etc. I lived in Chile during the best of those years and it was probably experiencing the most change. During that period, I saw 5 sovereigns become investment grade, Colombia, Panama, Brazil, Uruguay, Peru. Today, these countries collectively make up about 43% of the region’s GDPⁱⁱ.

Guy: LATAM has had an interesting history of shifting political winds. Could you provide a quick overview and then offer some perspective on the recent political shifts left – specifically in Mexico, Chile and Peru, and I guess- we’ll soon know - but possibly in Brazil as well?

Thomas: Well after the glowing report I just gave, I think it’s important to balance it out. Let’s be honest-- all has not been well with the capitalist model. We have seen a move left in several countries since 2018, either in the streets – like in Chile and Colombia that saw massive riots at the end of 2019, or in the ballot box like Mexico in 2018 and Peru and Chile during 2021. And we could see new leftist governments by the end of 2022 in Colombia and Brazil as the left is polling well in each of those countries.

GUY: I find it fascinating when political pivots occur quickly… Why is this shift left happening now?

Thomas: Great question. I have a few different perspectives on this. First, the golden decade I mentioned before faded into the tapering/commodity downcycle of 2014-16, and growth was slow to recover going into the pandemic. We still observed a stable economic environment, but the stage was set for rising frustration. And if you think about it through an ESG lens, the market-friendly governments had a ton of focus on G (governance…macro policy, inflation control, reducing external vulnerability, debt reduction etc), and not enough “S” (social realities like health care, education, pension adequacy, inequality). While poverty rates did come down and people were generally better off, there was still a huge wealth gap….and people felt that.

GUY: Are you saying that the leftist shift is or should be a concern for the markets? How’s the performance been in the countries where “the left” (quote, unquote) is already in power?

Thomas: Most would agree that the extreme left has performed poorly, yes, and as examples you only need to look at the economic state of Venezuela/ Argentina / Bolivia / Ecuador (although they now have a reformist government that we are optimistic about). In these places we have seen economic models that are: more interventionist, more centralized, less welcoming of private capital and less open on trade.

But, the left generally should not be thought of as doing a bad job, per se. There are many successful left leaning democracies in the developed (Western Europe) and Emerging (Uruguay, CEE) world. In fact, a left heavy agenda is typically more desirable in latam to address the underserved social realities like health care, education - NEEDs more focus in latam and other EMs, because they are behind and need to catch up. Ideally, latam countries can strike the right balance between increasing social investment and maintaining macroeconomic stability. This is where Venezuela and Argentina have gone dramatically wrong, and I am encouraged by the fact that leftist leaders throughout the region agree that both of those are models to avoid.

And if I can make one final point…. a lot of countries in the region have had leftist leadership that turned out to be quite responsible. For instance, during the golden decade, 3 of the countries that were upgraded to IG had leftist governments in place that were critical to the process (Panama, Uruguay and Brazil). Around the same time, Chile and Peru were already IG when they elected leftist governments but neither of those altered the path to progress or threatened stability in any meaningful way.

Guy: Ok so where’s this going? What’s your vision for the region for the next, say, 3-5 years.

Thomas: The pendulum has clearly shifted. Latam citizens are demanding a more defined social agenda and leaders are being elected to make it happen. There will be greater fiscal outlays and probably higher taxes, none of which are “credit positive”, especially in the wake of a pandemic where fiscal deficits are still running well above trend. So we are likely to see more ratings pressure in places like Chile, Mexico, Peru and Panama. But the buffers are pretty good in most places. Chile is still a single A and we believe it may fall to BBB but not realistically before late 23 or 24 in our view. We believe Peru and Mexico may slide a notch or two but remain In the BBB category, and Colombia and Brazil are not likely to move much from current BB ratings. Panama has the highest probability of a meaningful downgrade to BIG, which we place at around 30% over the next 18 months.

And longer term, our expectation is for the political pendulum to settle somewhere left of center, and for LatAm to come out of this period looking more European, with a social democrat feel.

Guy: I suspect, despite LATAM’s political shifts, there is still much to like about EM in terms of rich commodity resources and solid demographics. How do you and your team view these aspects and other such attractive attributes?

Thomas: We try to look past the noise and remember the real strengths of the region.

1. Economics 101- land/labor/capital, latam has it all. Populations are not ideologically opposed to capitalism and pro market activities. What we have learned in recent years is that it needs to be balanced to ensure growth is socially equitable.
   
2. We are calling for a softer sovereign ratings story, but fundamentals for EM corporates are emerging from the pandemic as strong as ever with leverage metrics at the lows of the past 15 years. We really like latam corporate issuers in particular. This is a space we have been deeply involved in for over 20 years and we have seen how conservative most of the management teams are through the cycle.
   
3. Regarding value, we like the value in latam… even though gradual ratings deterioration is expected in several countries, lots of risk is already priced in. Chile is trading like BBB 2 years before time. Mexico trades 50 basis points wide to BBB peers.
   

Guy: What are some other countries in the EM sector that we should be keeping an eye on? How about countries outside of LatAm, particularly with respect to political events?

Thomas: Most of the news flow is indeed happening in latam right now, but there are other interesting stories we are focused on.

• We didn’t talk much about Argentina…there is an expectation about progress with a new IMF agreement and long term policy commitments, but nothing firm yet.
  
• Turkey very interesting, great potential…was BBB now single B, could be a very interesting longer term investment if policies can be adjusted to restore confidence.
  
• Russia/Ukraine is getting headlines again, with Russian troop buildups along the border. This is affecting asset prices in both countries.
  
• EM Bs – cheap on macro environment, risk shunning. Lots of interesting stories we are comfortable with, especially with high oil prices like Angola, Ivory Coast, Egypt, Oman
  
• Several interesting Distressed stories playing out this year: Sri Lanka, El Salv, Zambia
  -We expect debt restructurings in Zambia and Sri Lanka, possibly with the support of the IMF, and El Salvador should be able to avoid distress if it can come to terms with the IMF sometime this year.

Guy: How does speaking frequently with your friends and MIM colleagues who live locally help you navigate EM and make you a better Portfolio Manager?

Thomas: Well, we cover sovereigns and corporates in over 70 countries across the globe, and I can assure you something is always happening in EM. So, having people in Asia, Europe, and Latin America is a tremendous benefit. The colleagues we interact most with are our research analysts and regional PMs. The real advantage is that our analysts can react to news flow in real time. That means that when impactful news comes out regarding an issuer in Turkey or Indonesia for instance, by the time the sun rises in NY, our analysts will have already reviewed the facts, formed a view and prepared a recommendation. Away from that, our colleagues in the regional offices are really well connected culturally with their regions and often have valuable perspective as news breaks. We key into this especially during elections, and that local color was particularly insightful during the social disruption in 2019 in Hong Kong and Latin America and then again throughout the pandemic.

Guy: Well, that’s a good place to stop. We look forward to speaking with more your Emerging Market colleagues in upcoming episodes. Thank you for your insights into this interesting portion of the Emerging Market universe. There never seems to be a dull moment in the asst class, and all of this political news seems to contribute to the excitement! Thank you for your time and insights, Tom.

Thomas: Thank you.

ⁱ As of September 30, 2021
ⁱⁱ GDP (current US$) - Latin America & Caribbean | Data (worldbank.org)

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