Investing in Latin America is not always for the faint of heart. The region is seemingly in perpetual political turmoil and faces issues of erratic policymaking,a lack of gross fixed capital formation and, in some areas of the economy, downright corruption. Taking these points together, the region has struggled to diversify their economic dependence on commodity exports; subjecting them to boom-bust cycles. Latin America has thus offered an attractive tactical trade opportunity from time to time, but has not made sense from a buy-and-hold perspective. While it remains to be seen if the region can make sustainable improvements to political, social and economic stability (there is considerable upside potential…but we’re not keeping our fingers crossed), we posit that the conditions are currently ripe for a period of substantial outperformance.

Monetary policy has impressed of late, as Latin American central banks did not assume burgeoning inflationary pressure was transitory, as most of their developed market peers did. Despite political pressure to support economic growth, central banks exercised their autonomy and aggressively hiked policy rates. The widening interest rate differentials propped up currencies, which in turn helped offset surging import costs. Now, with inflationary pressure in most countries cooling rapidly, it is likely that Latin American central banks will be amongst the first to loosen policy. Per the chart below, Brazil’s SELIC target rate remains at 13.75%, while year-on-year inflation fell to 3.9% in May, giving the country an eye-watering real rate of almost 10%. For context, the US and Eurozone have a real policy rate of 1.1% and -1.5% respectively. As Latin American rates roll over, domestic activity should perk up and deeply depressed equity valuation multiples should begin to move towards longer-term average levels.

Industrial metals prices should be well-supported over the coming decade as major economies around the world make considerable public infrastructure outlays to modernize and decarbonize their electric grids. Copper is a stand-out in this regard, as it also benefits from the proliferation of electric vehicles (EVs), which require approximately three times more copper inputs than internal combustion engine vehicles. Similarly, lithium demand is expected to grow quickly alongside EV battery production and renewable energy storage applications. The supply response is likely to be inadequate, after a decade of waning capital spending in the mining sector. These factors should provide a structural terms of trade boost to Latin American economies. Brazil is the world’s second largest iron ore exporter, Chile and Peru are the top two copper exporters and the “lithium triangle” (estimated to hold over half of the world’s lithium reserves) borders Argentina, Bolivia and Chile. 

The investment thesis for equities in the region looks compelling. Yet, while commodity cycles tend to boost the popularity of incumbent leaders, there are no shortage of political risks. The recent “pink tide” pivot to the left in a number of Latin American countries has led to concerns of fiscal profligacy and less friendly business and investment conditions. For example, the recently announced plans to nationalize Chile’s lithium industry unnerved investors. Balancing relations with the US and China has also become increasingly difficult for many countries worldwide as both nations attempt to form strategic alliances. This is particularly acute for Latin American nations like Brazil and Chile for whom China and the US are the first and second largest export destinations respectively. The aforementioned success of central banks in the region getting inflation under control has not been universal. Battered by economic mismanagement, a collapse in the peso and a historic drought, Argentina is currently contending with an annual inflation rate of 114%! Accordingly, we prefer an active and selective approach to equity exposure in the region with Chile and Brazil our current top picks.