Features

Central America offers a huge opportunity to brave investors

Investment capital is flooding in and transforming Central America for the better. James McKeigue reveals the best ways to profit.

14-4-27-Panama-634

Panama City has a skyline to rival New York

In recent weeks, the Mediterranean Sea has become a tragic, watery graveyard. Ironically, a place that most Brits associate with fun and holidays is the final, most perilous leg of a daunting journey for many African migrants.

Less reported in the UK, but just as sad, is the Central American child immigrant crisis. Every year, tens of thousands of Central American children make the long journey north to hand themselves in at the US border. There, they hope a loophole in US immigration law means that they will be handed over to relatives already in America.

Dodging police, drug traffickers and petty criminals must make for a horrible journey especially for a child travelling alone. But they are driven by the tough conditions in their home countries. Four of the five most murderous countries in the world are found in the tiny Central American isthmus. Chuck in high youth unemployment, corruption and poverty and you can see why so many are prepared to take on such a risky journey.

But, as depressing as all that sounds, I am actually optimistic about Central America. The region is benefiting from several trends that are going to boost economic growth and improve the quality of life for its people.

It might sound contrarian to invest in a region which still has so many problems, but so far it's paid off. Cable and Wireless, a UK telecoms firm that earns most of its money in Central America and the Caribbean, is up 71% since I first tipped it in June 2013. That's good, but I think the region will give British investors plenty more in the years to come.

Defining Central America

Firstly, a quick definition of Central America. The region is made up of Belize, Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua and Panama and is home to around 41 million people. The largest country is Guatemala with 14 million people; the smallest is Belize with just 300,000 people, while the rest have between three million and seven million people each.

There are huge differences between the countries. For example, Panama City has a skyline to rival New York, while Nicaragua's capital, Managua, would struggle to outshine Basingstoke. On the plus side, Nicaragua is one of the safest places in the region, unlike Guatemala, Honduras, El Salvador and Belize, which have murder rates to rival war zones.

But despite these differences, it's still worth looking at the region as a whole. That's because it's so small and interconnected that all of the countries are being shaped by similar economic forces.

Why I like it

If you ever read about Central America in the British press, it's normally because something bad has happened. The drug wars and fearsome-looking gang members the ones with the tattoos all over their faces generate plenty of negative headlines.

But away from the headlines the region is actually undergoing an economic transition. It is home to some of Latin America's fastest growing economies and over the last few years, Central America has outperformed South America. That looks set to continue with the IMF expecting growth of more than 4% in both 2015 and 2016.

Most British investors assume that Central American economies are still based around banana or coffee experts and 15 years ago, they would have been right. Back in 2000, commodities still accounted for more than half of Central American exports, but since then, a transformation has taken place. Manufacturing is now the region's economic mainstay, accounting for 75% of exports.

Central America is becoming a hub for the light manufacture of products destined for the US market. Its two main assets are low labour costs and a great location close to the US. That's helped it thrive despite competition from China. Indeed, Central America is currently in a demographic sweet spot.

It might be a small region, but it has a young and growing population. That creates a growing labour force, which keeps wages competitive and gives industry room to expand.

Central America is powering itself with renewables

Another factor that will help Central America is energy. Central America has amazing renewable energy resources, which can produce power far more cheaply than, say, a British offshore wind turbine. As a result, there has been a spate of renewable energy projects across the region that have helped to wean it off the dependence on fluctuating oil prices. For example, Costa Rica now gets 100% of its power from renewable energy. In Guatemala, the figure is almost 70%, while in Nicaragua it is 50% and rising fast.

Having low and stable energy costs will boost Central America's competitive advantages as a manufacturing hub for the US market. But Central America is not just focused on the US. It recently signed a trade agreement with the EU, which will lead to a lot more Central America products ending up in British shops.

Central American exports to Europe have grown from €14bn in 2009 to more than €25bn today. That growing trade with Europe, now 8% of the total, is helping the isthmus diversify away from its traditional dependence on the United States. Moreover, it looks set to increase. Once the EU deal comes into force, tariffs on 92% of Central American imports will be cut.

Central American producers of quality value-added goods, such as rum and cigars, should also see a European sales boost. Meanwhile, textile producers, who have built their business on selling to the US, will gain another 500 million tariff-free customers.

Finally, a huge infrastructure push across the region is improving connectivity between Central American countries and the wider world. For example, Nicaragua is building an inter-oceanic canal for an estimated $40bn, while Panama and Guatemala are spending $35bn and $8.4bn, respectively, on planned infrastructure projects.

The US is also investing heavily in Central American infrastructure projects through the clunkily-titled "Plan of the Alliance for Prosperity in the Northern Triangle". The US will fund more than $1bn of road and power grid projects in El Salvador, Honduras and Guatemala in a bid to boost those economies and, hopefully, stem the flow of migrants in the process.

These infrastructure projects will give another big boost to the region's manufacturers. Because, as Oxford University professor Diego Snchez-Ancochea noted at a recent talk I attended, "for manufacturing in the region to really develop we need the countries to become integrated in larger supply chains We've seen countries in Asia do this to great effect. Asia has been successful not just because of China but they have linked between countries to create a whole product."

How to play it

Central America is not an easy story for UK-based private investors like ourselves to play. There are some specific regional funds out there but nothing that's available to us. However, there are two companies that offer us a general way in.

First up is UK telecoms firm, CWC (LSE: CWC), which has operations across Central America and the Caribbean. It's up by more than 70% since I first tipped it, and is doing a good job of building up its footprint in the region.

Another option is Panama-based airline Copa (NYSE: CPA), where 50% of its flights have customers using Central America as a start point or final destination. I first tipped it back in 2013, and it rose by around 50%. It has since fallen back it's now up by 10% - because of money lost through exposure to crisis-hit Venezuela.

However, if you didn't buy in last time, I think now is a good time. Copa has now re-jigged its flights to have less exposure to Venezuela and should benefit in the long-term as Central America continues to outperform.

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