Optimism Buoys Mexican Peso, Markets

The Mexican stock market is up a buoyant 13% this year, ranking it among the best-performing markets worldwide. The peso continues to defy gravity as interest rates fall and investors flock.

theseQue pasa?

Mexican markets are on a roll, buoyed by the country’s improved image abroad and optimism that its economy is reviving after a yearlong recession, thanks to the beneficial effects of the nascent U.S. recovery. This year’s stock market gains follow a respectable 13% bump in 2001.

Steady flows of foreign investment and the general feeling that Mexico has its act together are fueling the optimism. Signs of a recovery are evident in lower unemployment rates in February, a pickup in job growth during the last two months and rising exports since December.

“Just as we went down together last year, the Mexican and U.S. economies are going up together now,” said Alfredo Thorne, chief Latin America economist at J.P. Morgan Chase & Co. in Mexico City. Said Jonathan Heath, a Mexico City economist with LatinSource: “Our recession probably ended in February.”

Not all signs are positive, and some analysts go so far as to say investors have overdone it by bidding up stocks as high as they have. Industrial activity remains depressed, with jobs at the assembly plants called maquiladoras at a four-year low. As of January, consumption was at best sluggish.

“In my opinion, the Mexican stock market went ahead of itself. The long-term perspective remains solid. But when you look at individual companies, you see very little growth in short-term profits,” said Henry Garrido, senior emerging markets analyst at Montgomery Asset Management in San Francisco.

Others say the economic signals are not conclusive.

“The industries I talk to say markets are still soft. All except auto companies are still experiencing contraction in sales,” said Mexico City economist Rogelio Ramirez de la O. Car sales here were boosted by a round of price cuts and no-interest financing deals such as those given to U.S. consumers late last year.

John Christman of think tank Ciemex-Wefa in Mexico City said the assembly plants concentrated along the border, where goods are assembled mainly for shipment to U.S. markets, have taken a tremendous hit and that the outlook is “still pretty grim.”

As of January, the latest month for which figures are available, the number of maquiladoras had dropped 9% from the previous year to 3,367 and jobs had fallen 18% to 1.07 million.

“U.S. economic indicators seem to be picking up, and if that continues to be the case, maquiladoras will feel the effects sooner or later. But there is traditionally a lag time of two to three months,” Christman said.

Mexican stocks lost 1.7% in Wednesday trading after the government announced $1.2 billion in budget cuts, saying they were necessitated by lower tax collections and oil revenue in recent months. The cuts won’t help the economy and could, in fact, stifle it.

Still, analysts such as Brian Gendreau of Salomon Smith Barney in New York, who look to the medium and long term, are upbeat about Mexico. He cites improving economic fundamentals and the recent investment-grade status bestowed on Mexican debt by top rating firms.

“There is a lot of momentum in the Mexican market. Investors feel very comfortable there, happy with the rating upgrades, believing that Mexico is becoming increasingly integrated with the U.S. economy and that it’s a safe haven from international turmoil,” Gendreau said.

Perhaps the strongest evidence of Mexico’s rebound can be seen in the strength of the currency, now at a 10-month high of about 9 pesos to the dollar.

A rising tide of foreign investment has put demand pressure on the peso, boosting its value. Its continuing strength confounds the forecasts of many economists.

The peso’s value has been pumped up by the flood of cash that made Mexico the final destination for 20% of all foreign investment in emerging markets last year, according to the Institute for International Finance.

Low inflation, which is expected to reach only 4.7% this year, has enhanced the peso’s appeal, LatinSource’s Heath said.

“Mexico is joined to the hip of the United States, and so Mexico is a play on the U.S. economy. If we have the U.S. recovery that we expect, one that will surprise the consensus, Mexico will feel the impact,” said Geoffrey Dennis, emerging markets strategist at Salomon Smith Barney in New York. One-quarter of Mexico’s economic output is sold in the United States.

Mutual funds based in the U.S. and Europe bought $162.6 million of Mexican stocks in January and February, Salomon’s Gendreau said. That purchasing activity has been partly responsible for the double-digit gain in Mexican stock values this year, which compares with a 2% drop in the Standard & Poor’s 500 index. Mexico’s main stock index has outperformed most major markets this year.

Some economists are concerned the strong peso will impede a recovery because it makes Mexican exports more expensive.

But economist Alfredo Coutino of Ciemex-Wefa says that effect is balanced out by the steadily declining tariffs on Mexican products entering the U.S. as a result of the North American Free Trade Agreement, now in its ninth year.

Mideast jitters have sent crude prices to their highest levels in a year, good news for the Mexican government, whose budget is 38% dependent on taxes from oil sales. Dennis warns that if prices remain high too long, thereby stifling a U.S. recovery, Mexico could suffer.