Mexican Stocks on Hot Streak

Presidential elections have a way of putting investors in Mexico on edge, thanks to financial collapses that have marked past hand-overs of power.

But you wouldn’t guess that a political nail-biter was shaping up south of the border judging by the confident performance of the stock market. Mexico’s IPC index, known as the Bolsa, is up almost 19% in 2006, closing at record highs 22 times since the first of the year.

In contrast, the U.S. Standard & Poor’s 500 index, which hit a five-year high early this month, is up just over 3% in the same period.

Some link the Bolsa’s rally to the rise of conservative National Action Party candidate Felipe Calderon, a Harvard-educated technocrat backed by Mexican business. The heir to President Vicente Fox as party leader has pulled ahead of populist Andres Manuel Lopez Obrador of the Democratic Revolutionary Party heading into July’s election, according to recent polls.

But if recent performance is any indicator, Bolsa investors are not an especially partisan bunch. In 2005, when Lopez Obrador held a double-digit lead over his closest rival and some pundits had all but declared him Mexico’s next president, the IPC soared 38%.

Mexico’s markets are hardly immune to political risks. Some worry that a sharp swing to the left -- represented, potentially, by Lopez Obrador -- could destabilize the economy. Still, experts say surging equities underscore investor confidence in the nation’s commitment to keeping its finances in order, no matter who succeeds Fox. And it reflects an economy that is finally picking up steam and boosting corporate profitability, thanks to robust growth in the United States, the destination for more than 90% of Mexico’s exports.

It’s a scenario being repeated throughout the region. Latin American economies are expanding at the fastest clip in years, thanks in large part to soaring commodity prices, while most governments so far are avoiding the uncontrolled spending of the past. The region’s external debt is manageable, foreign reserves are plentiful and treasuries are flush with oil and metals revenue thanks to voracious world demand.

“The region is much more stable than it was in the past,” said Alberto Ramos, emerging markets analyst with Goldman Sachs in New York, who added that the likelihood of any Latin American nation tumbling into default on its debt appears remote for at least the next couple of years.

In fact, U.S. investors are betting big on developing nations around the globe, whose economies, in many instances, are growing much faster than those of the U.S. and Europe. U.S. mutual funds investing in emerging markets have seen bountiful net inflows of cash in the last two quarters.

An index mimicking the performance of 26 emerging nation stock markets created by Morgan Stanley Capital International Inc. posted returns topping 60% over the last 12 months and 40% annually for three years.Morgan Stanley’s Latin America index, which includes the markets of Argentina, Brazil, Colombia, Mexico, Peru and Venezuela, has advanced almost 80% since May 2005.

Gonzalo Pangaro, portfolio manager for the T. Rowe Price Latin America Fund, which has delivered average returns of 33% for the last three years, doubts that foreign equities can continue delivering such eye-popping results. He urged those contemplating jumping in to consider buying on dips.

“It’s a volatile region with volatile returns,” he said of Latin America. “They should look for moments of weakness after the very strong returns of the last three years.”

A pullback may be underway. Latin markets sank late last week amid a global stock sell-off triggered by worries about rising inflation and interest rates.

Recent moves by the governments in Venezuela, Bolivia and Ecuador to exert greater control over their energy resources underscore that conditions can change quickly. Militancy is rising among the region’s poor, who feel that free market economics have let them down. Some investors have no doubt been alarmed by Venezuelan President Hugo Chavez’s strident anti-capitalist rhetoric and images of Bolivian troops seizing natural gas fields.

Still, equity markets are riding high even in politically volatile places such as Venezuela, Ecuador and Peru as revenue from oil, copper and other raw materials have accelerated growth. Meanwhile, investors appear to have become comfortable with moderately left-of-center governments in Chile, Argentina and Brazil.

Some economists cringed when Brazil’s Luiz Inacio Lula da Silva, a founding member of the leftist Workers’ Party, was elected to lead South America’s largest nation in 2002. But as president, the former labor activist has proved a prudent fiscal manager and savvy negotiator, negotiating limits on civil service pensions that conservatives could only dream of.

The nation’s Bovespa index has surged 67% over the last 12 months. Much of that gain can be attributed to the stellar performance of Petrobras, the state-controlled oil firm whose market capitalization has fed on record oil prices. Petrobras’ U.S.-traded shares have more than doubled in value since May 2005 to $100.64 on Friday.

Mexico’s stock market isn’t as directly affected by energy prices because its petroleum and electricity industries are wholly owned by the state. Rather, some of the Bolsa’s heady gains reflect the dominance of many of its major companies, including Telmex, Grupo Televisa, America Movil and Cemex, which hold near-monopoly positions in key industries at home while competing fiercely abroad.

So even though Mexico’s gross domestic product grew a modest 3% in 2005, Cemex shares climbed 63%, for example, fueled by robust domestic and world demand for building materials.

Changes in investment laws have also aided the Bolsa’s rise. In 2005, Mexico’s private pension funds, known as Afores, were permitted to put a portion of workers’ individual retirement accounts into equities. The cash contributions amount to about $350 million so far.

The Mexican stock market also reflects optimism about the nation’s economy, which is kicking into higher gear thanks to strong demand from its biggest trading partner, the United States.

Mario Correa, an economist with Scotiabank Inverlat in Mexico City, projects that Mexico’s GDP expanded at an annual rate of 5% in the first quarter. Official figures will be released this week. If his forecast is accurate, it will be the fastest pace since the third quarter of 2000.

Still, Correa believes that Mexico’s economy is badly in need of structural change: liberalizing labor law, improving tax collection, allowing private capital into the energy sector. To sustain its growth rate, Mexico also needs its northern neighbor’s appetite for imports to stay healthy, he said.

“The economy is in a straitjacket,” he said. “If the U.S. economy starts to slow, we’ll be in trouble.”