Sunday, 16 December 2018

Up above the Brics so high

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  • Hot air balloons float above the Pyramid of the Sun of Teotihuacan outside Mexico City

Last year’s sweeping primary reforms may well transform Mexico from a labouring mid-table emerging economy into a star of the future.

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Just as one tends to recall the moment they fall out of love but struggles to recollect when they tumbled in, it’s often tricky to pinpoint the precise moment when an economy’s on-switch is located. In stark contrast, we usually remember when a sovereign nation’s growth model falters or fails, but not the events that triggered its initial rise. Mexico may have broken that mould.

The successful implementation of secondary legislation this year will, it is hoped, lead to an inrush in foreign and local private capital as industries from energy to telecoms, once dominated by state interests, are thrown open to private and foreign capital. Foreign direct investment should then rise as global corporates, notably from the US, which absorbs four-fifths of Mexico’s exports, seek to cash in early on its economic revolution.

Grading the Mint

Dealflow should rise accordingly, as state and privately run firms seek to tap equity and debt capital markets, while the government will find it easier and cheaper to issue debt, a process abetted by Moody’s, which handed the United Mexican States its first A grade credit rating on February 5. The country has also caught the attention of influential acronym-wielding economists. In January, Jim O’Neill, who in 2001 coined the term Bric, pooling emerging giants like Brazil and China, identified a second tier of rising sovereign stars, the “Mint” nations, led by Mexico.

Leading regional bankers increasingly see Mexico as a natural destination for global corporates and capital.

“Among the chief by-products of recent reforms should be rising capital market activity and the overall expansion of the capital markets, as well as greater competition in key industries,” said Alonso Cervera, a managing director at Credit Suisse’s fixed-income division in Mexico City.

Banks are pushing harder into a country that appears to offer both safety – Mexico has thus far proven more immune than most of its emerging market peers to turmoil as the US continues to wind down its easy-money policy – and yield. Octavio Lievano, senior country officer, Mexico, at Credit Agricole, said banks “are becoming more aggressive, hiring and upgrading their licences. [T]he expectations on the ground are high”.

”Its economic outlook isn’t driven by commodities or China, but by an improving competitive picture. Energy is the biggest sea-change: the reforms have gone far beyond what the market was expecting”

Deal flow data back that view. Total domestic equity capital market issuance hit a record US$12.1bn in 2013, according to Thomson Reuters, up 25% from the previous year. Investors bought in heavily to a series of blockbuster 2013 follow-on sales, as well as a scattering of IPOs from the likes of low-cost carrier Volaris Aviation, which raised US$350m in September. A series of pension reforms stretching back to the 1990s have created a powerful cabal of domestic pension funds providing, “a big source of assets”, said Lievano.

The ‘new’ Brazil

Some now even see Mexico as the future of the region – the ”new Brazil”. Latin America’s largest economy has lost some of its lustre in recent quarters, and only avoided slipping into technical recession in 2013 thanks to a final quarter that was stronger than expected. Jorge Mariscal, chief investment officer, emerging markets, wealth management at UBS, said international capital was now as receptive to Mexico as it was to Brazil was five years ago.

“Mexico is now a darling of emerging markets,” he said. “You can see that in the fact that more than half of all peso-denominated fixed-income securities issued by the government are owned by foreign investors.”

For all of its huge promise, its potential as a regional and, in time, global economic and financial player, Mexico’s future is far from assured. Parliament has proven its mettle by approving aggressive reforms designed to boost non-oil tax take, boost lending by commercial banks, and inject competition into formerly state-dominated sectors from financial services and energy to healthcare and education. Anti-trust powers have been beefed up, while the government is straining to cut corruption and crime and improve transparency.

Getting the job done

Now the hard part starts: turning theory (passing primary reforms) into practice (pushing through a mass of secondary legislation). This won’t be easy: there are plenty of vested state interests, notably in the telecoms and energy space, with much to lose from a more competitive landscape.

“Mexico is now a darling of emerging markets. You can see that in the fact that more than half of all peso-denominated fixed-income securities issued by the government are owned by foreign investors”

Yet Mexico’s leading political parties, who joined forces to create the Pacto Por Mexico (“Pact for Mexico”) in late 2012 after the election of current President Enrique Pena Nieto, have no choice but to push ahead. Global investors will be scrutinising their every move, from any perceived backtracking on reforms to foot-dragging over implementation. Many have noted that secondary laws on energy, originally tabled for approval by early March 2014, have been delayed, some by as much as six months.

So far, investors seem confident that lawmakers can get the job done. Inbound FDI, which averaged US$23bn between 2000 and 2012, surged to a record US$35.2bn last year, according to data from the economy ministry, up 178% year on year, due to a few blockbuster deals such as the delayed US$20bn acquisition of brewing giant Grupo Modelo by Anheuser-Busch InBev.

That tallies with the long-term boost to inward corporate investment predicted by analysts: Nur Cristiani, Mexico equity strategist at JP Morgan, said that if “reforms are successfully implemented, we could potentially see another US$12bn or US$13bn in additional [annual] FDI flowing into Mexico. This would give the country a very optimistic future”. Rafael Elias, head of Latin America credit strategy at Credit Agricole, sees FDI remaining “far higher than portfolio investment” for some time to come.

Corporates are betting, in large part, on future rather than current growth expectations. Mexico’s economy only expanded by 1.2% in 2013, according to February estimates from the central bank. But this underperformance was, analysts said, due to temporary glitches: poor harvests, a brief slowdown in government spending, and a faltering construction sector now emerging from recession.

Most economists expect GDP to grow between 3% and 4% in 2014. JP Morgan’s Cristiani is not alone in tipping the economy to expand on a regular basis by “up to 5%”, assuming that “all ongoing reforms are successfully implemented”.

On the primary equity issuance side, the future appears less certain, for good reason. At the moment several key industries, notably energy and telecoms and also cement, media and retail are dominated by a few, very large players. Reforms should fracture then break their dominance, but building up or spinning off corporate vehicles large enough to list on the Bolsa Mexicana de Valores will take time.

More competition

“Recently approved anti-monopoly laws should lead to more competition in the telecoms and banking sectors in particular,” said UBS’ Mariscal. He also pointed to more future IPO activity in “new” or burgeoning industries, from oil services to private schooling and real estate investment trusts to healthcare. Domestic buyout firms are also set to drive listings: Mexico’s private equity industry more than doubled in size between 2000 and 2013 to US$15bn.

Mexico may no longer be tagged as a “normal” emerging market. It has a sturdy manufacturing base, is wedded inextricably to the US’s improving economy, and boasts potentially the world’s sixth-largest reserves of shale gas. Unlike Brazil, it has embraced private capital, pursuing the path of greater liberalisation and deregulation. It is also more efficient, larger and more price-competitive than many if not most of its peers, both regionally and globally. 

Yet a few issues remain outside its control. Mexico has not entirely avoided the turbulence created by the Federal Reserve’s decision to taper its bond repurchasing programme. The peso, one of the most widely held emerging market currencies, lost ground against the greenback early in the year.

More than a few stock listings have been put on hold, due to emerging market concerns rather than doubts over Mexico’s future. In February, retailer Grupo Gigante shelved plans for a Ps5bn (US$377m) IPO due to volatility and market conditions. The firm had been expected to price up to 291m shares around the middle of the month. Airline VivaAeroBus, a joint venture between Ryanair and local bus operator IAMSA, also postponed its planned US$250m listing in February. Analysts pinned the delay on the continuing global sell-off in emerging securities. 

But taper-related jitters aside, Mexico’s future lies in its own hands. A stable, sturdy economy is in the process of implementing the sort of necessary reforms that have proven beyond Brazil and many other emerging markets. Secondary legislation, if successful, will drag in more foreign corporate and, ultimately, portfolio investment.

“The hype around Mexico is warranted,” said Credit Agricole’s Lievano. “Its economic outlook isn’t driven by commodities or China, but by an improving competitive picture. Energy is the biggest sea-change: the reforms have gone far beyond what the market was expecting.”


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