Latin America looks cheap – here’s how to take advantage

It’s been a grim few years for those investing in Latin America.

Many people are blaming the pain in emerging markets largely on the Federal Reserve’s plans to cut back on quantitative easing (the ‘taper’). But the region’s woes go back way further than that.

In fact, the MSCI Latin American Emerging Market Index peaked at the end of 2010, well before the taper was even a twinkle in Ben Bernanke’s eyes.

The real problem has been fear over the knock-on impact from a slowing Chinese economy. China is trying to create a more consumer-led economy. That implies lower demand for agricultural imports and other raw materials. That’s bad news for most Latin American nations, which still depend heavily on selling their resources overseas.

But with the region as a whole losing money for investors for two out of the last three years, it’s starting to look like a good contrarian bet. Here’s how to play it…

Political risk in Latin America is less extreme than it was

The country grabbing all the headlines in Latin America just now is of course Venezuela, where the regime is still clashing with protestors. Both my colleague James McKeigue, who co-writes The New World newsletter, and I have written articles on the situation, and it’s fair to say that it’s a pretty grim story.

But if you look at the region as whole the situation is much more positive. Given Latin America’s long history of dictatorships, it’s no surprise that political risk is still a drag on investor confidence. Even in those countries where free and fair elections have taken place, there is always the risk that the loser might not accept the result and try and sabotage the process.

The two most prominent recent examples were the 2002 Bolivian election and the 2006 Mexican election. In the former case, armed supporters of the loser shut down the country a year later, forcibly removing the president. In Mexico, similar protests eventually petered out, but still succeeded in disrupting traffic to and from the capital for months after the election.

With this in mind, it’s no surprise that this year’s round of elections in the region (Brazil, Colombia and Uruguay) might have investors worried. But they shouldn’t be. Experts on all sides of the political divide expect the outcomes to be respected.

What’s more, William Landers of BlacRock Latin American Investment Trust expects that, assuming Dilma Roussef (in Brazil) and Juan Manuel Santos (in Colombia) are re-elected, they will take much more investor-friendly positions, in a similar way to Mexico.

The benefits of a young and growing population

There’s another, longer-term reason to be optimistic. One reason why populist politicians – from Peron in the 1950s to Chavez in the 2000s – have done so well throughout Latin America’s history, is that there has always been a large gap between the rich and poor.

Of course, populist policies, such as state control and high trade barriers, have just made things worse, by stifling competition and strengthening the hand of a few large firms. Crime and corruption also ensured that the benefits from the boom period of the 1980s were creamed off.

But now, thanks partly to economic reform, wealth seems to be trickling down. According to a 2013 World Bank Report, Latin America’s middle class grew by 50% during the last decade. The proportion of those living in poverty meanwhile has fallen from 44% in 2003 to 31% in 2009.

Not only is the middle class growing, it’s also young, unlike the ageing populations in Europe and Southeast Asia. That makes for strong consumer demand. Retail sales have nearly doubled in real terms (in other words, adjusting for inflation) over the past decade in Brazil, Chile and Colombia.

The big winner has been the domestic banking sector, which has grown on the back of demand for mortgages and car loans. While credit growth can be a double-edged sword, most banks in the region are run on traditional lines, avoiding the financial engineering that led to the subprime crisis.

An easy way to buy into Latin America

In short, while Latin America has been hurt by cyclical, short-term moves in the economy (falling demand for commodities), the longer-term story is bullish. Governance is improving across the region, and the young population means consumer demand and growth will remain high and rising.

That makes Latin America look cheap right now. The US market trades at a price/earnings (p/e) ratio of 14.3 times 2015 earnings, and a dividend yield  of 2%. The MSCI Latin America Index on the other hand, has a forward p/e ratio of only 10.6 times, and a yield of 3.3%.

Investing directly in Latin America can be complicated for the retail investor. You’ll find some individual companies listed in the US, but obviously that leaves you open to specific stock and country risk.

If you’re just looking for a general play on Latin America, then the BlackRock Latin American Investment Trust (LSE:BRLA) looks a good option. It has managed to beat the benchmark index over one and five-year periods (returning 65.3% over the last five years). The total expense ratio is relatively low at 1.01%. The trust also trades at a 7% discount to net asset value (in other words, you can pick up the underlying portfolio for less than it’s worth).

Also, if you’re interested in the region, you should have a look at The New World, a free newsletter covering Asia and Latin America, written by Lars Henrikssen and James McKeigue. James, who regularly travels around the continent, provides articles based on his meetings with businessmen and officials and his unique knowledge of the region. You can sign up for it here.

• This article is taken from our free daily investment email, Money Morning. Sign up to Money Morning here.

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  • dlp6666

    Bit surprised BRLA’s attractive current yield of 4.8% wasn’t mentioned.

  • aa9999

    I purchased BRLA in March 2010 at 662 and again in May 2013 at 558 – so I can only assume that the +65% mentioned in the article is the amount it has beaten the benchmark! Is this misleading readers?

  • mikester

    It is also worth noting that BRLA has a 10% performance fee