Editor’s Note: this article is part of InvestorPlace.com’s Best ETFs for 2019 contest. Ian Bezek’s pick for the contest is the Mexico iShares MSCI ETF (NYSEARCA:EWW).
They’re at it again. As happened in November 2016 following President Donald Trump’s election, Mexican stocks, as represented by the Mexico iShares MSCI ETF (NYSEARCA:EWW) are in freefall due to political headlines. Selling has been particularly harsh over the past month. EWW stock is now down 30% from its October high and has dropped 20% year-to-date.
This steep decline, however, is not based on economic fundamentals and thus offers a strong buy opportunity for Mexican stocks going forward. Here is why Mexico has declined, what its outlook is for 2019 and why it’s my favorite ETF for next year.
Politics Weigh On Sentiment for Mexican Stocks
There have been a couple of political developments that have caused foreign investors to dump Mexican stocks. In particular, the country elected a left-wing president this summer — Andrés Manuel López Obrador, or “AMLO.” This breaks a long string of conservative presidential rule in Mexico.
Since taking office recently, he has sent out a series of mixed signals to investors. His finance team comes with serious economics chops and appears to be reasonable in terms of its attitudes towards business and investors. This has raised hopes that AMLO will act like Lulu did in Brazil a decade ago, emerging as a pragmatic populist who set off an investment boom in Brazil despite initial fears from foreign investors.
On the other hand, AMLO put a referendum to the public on the status of Mexico City’s massive new international airport. The public voted it down, and AMLO canceled the project. This has led to a major squabble between the government and foreign bondholders. Members within AMLO’s party have also suggested regulating banking fees more strictly.
U.S.-Mexico Relations: Glass Half Full
Additionally, there have been more tensions related to the U.S.-Mexican border situation. In November, part of the so-called caravan of Central American migrants arrived in Tijuana. Regrettably, some of these migrants made an effort to cross the border, leading to an altercation with customs agents. It led to graphic photos of people getting tear gassed.
President Trump reacted with his usual aggressive threats on Twitter, threatening to shut down the border for the time being. Mexico, for its part, reacted quickly, deporting many folks who tried to cross the border illegally. All in all, this incident, while producing graphic photos, is hardly a significant change in the status quo. In all, Mexico has deported more than 11,000 Central Americans since October, when the latest caravan entered the country. Mexico can and is willing to listen to the U.S.’s demands to take more forceful action about the situation.
Unfortunately, it adds to the string of negative political stories about Mexico lately, primarily being jitters surrounding the new presidential administration. This loses sight, however, of the fact that AMLO and Trump appear set to work closely. Trump has praised AMLO on various occasions on Twitter, and they’ve discussed setting up a jobs program to help reduce the harmful side effects of immigration.
And let’s not forget the new NAFTA deal, recast as USMCA. This deal makes a series of modest changes to the U.S.-Mexican-Canadian free trade pact. These include alterations to tariff policies on autos, higher minimum wages for Mexican manufacturing workers, and other such adjustments. On the whole, however, it looks a lot like NAFTA 2.0. It should be a win for both sides and ensures stability for Mexico going forward.
Mexico’s Economy: Signs Are Pointing Up
For all of the political headlines, there’s little to report on the economic front. Q3 GDP recently came out and the numbers were in line with where they’ve been in recent quarters. So far, anyway, no signs of a slowdown due to the new presidential administration. GDP has now grown at a 2.7% annualized rate, with the economy’s largest sector, services, up more than 3%. Industrial activity, for what it’s worth, is up 1%, which while not a boom by any means is far from the disaster that people were predicting when Trump took office.
Scotiabank stated that: “The result was determined by a steady rhythm of activity in the services sector, improvement in agriculture and a slight decline in the industrial sector, which predicts a moderately positive step for the Mexican economy towards the end of the year.”
“Moderately positive steps” is not the language usually associated with a crushing bear market in stocks. You see people who look at Mexico’s plunging stock market and assume the country is entering a major recession. But there’s simply no recession — GDP growth is steadily humming along. In fact, it has gotten faster during the second half of the year.
Mexico: Increasing Optimism At Home
On top of that consumer confidence is booming. It has reached its strongest level in five years. That should bode well for the holiday shopping season. It’s important to remember that Mexican consumers have a very different view of the economy than foreign investors. In Mexico, people have put up with years of incompetent governance that did little for the working class. While AMLO is a wild card to investors, within Mexico, people feel that this government may be a turning point for the country.
And when people feel better, they spend and invest more. It becomes a self-fulfilling prophecy. Combine that with the new trade deal that ended two years of uncertainty and Mexico is set to flourish again. Additionally, the unemployment rate remains extremely low, currently around 3% and near 10-year lows. Mexican employers aren’t particularly perturbed by the political events going on at the moment. And that was before the new trade deal.
Mexican Stocks: Potential 40% Upside Next Year
All in all, Mexico has a healthy economy and there appears to be little to no signs of an AMLO slowdown at the moment. It could certainly come at some point, but the market has just taken 30% from the October peak off the value of Mexican stocks. That’s absurd. Mexico’s market is deep bear market territory despite the strong economy.
In fact, this decline is both steeper and deeper than the post-Trump scare in late 2016. That despite indicators such as consumer confidence being much stronger this time around. Back then Mexican stocks and its currency plummeted until Trump’s inauguration. From then on, EWW stock went up more than 40% in six months in 2017. Once political concerns blow over, we should get a similar move from EWW again. EWW also offers a 2.7% 12-month dividend yield with an expense ratio of 0.49%, or $49 annually per $10,000 invested.
For those, like me, who prefer individual stocks to ETFs, one way to play this is Aeroportuarios del Pacifico (NYSE:PAC). It operates more than a dozen airports in Mexico and Jamaica. The business is surging; it has run double-digit annualized revenue and profit growth over the past decade. The company pays out almost all its cash flow as dividends and currently yields more than 6%. It should be a key beneficiary of the strengthening Mexican economy. PAC stock has plunged from $110 to $74 thanks to the current panic.
At the time of this writing, Ian Bezek owned PAC and various other Mexican stocks, though he had no position in the EWW ETF. You can reach him on Twitter at @irbezek.
