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They say, "When the U.S. sneezes, the rest of the world catches a cold," and this seems to have proved true for an emerging market like Mexico, the second largest economy in Latin America. As the Fed kept faltering to taper QE, the Mexican peso witnessed a roller-coaster ride in both the bond and stock markets.
As things settled down after a week-long frenzy, it is time now to cherry pick some Mexican stocks. But before we zero-in on which ones to buy, let's have a recap of the vagaries in the Mexican economy.
The Rise of the Mexican Peso
With its close ties to the U.S., Mexican assets – like the relatively stable high-yielding government bonds – have been one of the most lucrative investment propositions for investors to leverage cheap loans in developed countries. Consequently, there was a significant inflow of funds into the economy as foreign holdings of peso debt amplified six-fold since 2009 to $1.75 trillion pesos ($136 billion) in Apr 2013.
Booming investor confidence triggered by a highly liquid market and hands-off attitude by officials steered the peso to a 4.3% return in 2013 till mid-May – the best performance among 16 major currencies tracked by Bloomberg. The economy was further buoyed by a reform push by the newly-formed government and a record-low benchmark interest rate of 4% by the Bank of Mexico (Banco de México). Bonds and stocks kept scaling newer highs as Mexico gradually became the blue-eyed boy among investors.
The Ignominious Fall
On Jun 19, Fed Chairman Ben Bernanke announced his intentions to start tapering and gradually phase out its $85 billion monthly bond-buying program by 2014. Although the announcement indicated an overall improvement in the U.S. financial system and dialed down the need for any additional stimulus, it ruffled the dynamics of several economies, including Mexico.
This led to a near stampede as foreign investors rushed for the exit door and some of the worst sell-offs of Mexican bonds since 2010. With speculations being rife about Fed tapering since early May, the Mexican peso plummeted from below 12 per dollar to over 13, while the benchmark ten-year bonds rose from a historic low of 4.4% to 6.2%. Even Mexican Bolsa IPC Index, the Mexican Stock Exchange, had an uncharacteristically sharp fall to close at a 52-week low.
A drastic fall in the currency and heavy outflow of capital have catapulted expectations of a further lowering of interest rates for a second time this year. At the same time, experts believe that in order to prevent further fall, the government can bring in some radical reforms by opening up the energy sector, which is considered to be one of the vital pillars for augmenting the long-term growth potential of the country.
On the other hand, some industry observers opine that subsequent Fed tapering could be a "winner's curse" for Mexico as they largely depend on the U.S. economy, which account for almost 80% of its total exports. So an overall improvement in the underlying growth factors for its northern neighbor would indeed work in favor of long-term gains. Thus, would it be fair to wish to delay the inevitable for short-term profit?
As markets have more or less stabilized, with reports of weaker U.S. GDP growth forcing the Fed to reconsider its decision and continue with the bond-buying program, it is déjà vu for investors all over again. In this context, top Mexican stocks with attractive valuation metrics backed by a solid Zacks Rank methodology include home developer Desarrolladora Homex, SAB de CV and airport manager Grupo Aeroportuario del Pacifico S.A.B. de CV (PAC - Snapshot Report).
Both of these stocks hold a Zacks Rank #2 (Buy). While Desarrolladora Homex has a forward P/E and long-term earnings expectation of 1.52 and 13.15%, respectively; Grupo Aeroportuario has respective tallies of 19.67 and 9.37%.
We also suggest a couple of Zacks Rank #3 (Hold) stocks – America Movil S.A.B. de C.V. (AMX - Analyst Report) and CEMEX, S.A.B. de C.V. (CX - Snapshot Report) – as they are expected to post robust earnings growth of 8.34% and 18.98%, respectively.
Even some hedge funds are bullish on the Mexican peso and anticipate the recently-found optimism to continue through year's end. As fundamentals look strong, the market is getting flocked by a huge pool of investors, creating short-term noises and long-term opportunities. Only time will tell whether such investor confidence is justifiable or not.