Fidelity Emerging Markets Limited (LON:FEML) portfolio manager Chris Tennant outlines why Fidelity are feeling optimistic over the outlook for Latin America. He discusses the key themes that are set to drive growth across the region and discusses how Fidelity Emerging Markets Limited is positioned to capture this potential.
Key points
- Our positive view on Latin America is supported by several interesting themes that are emerging, such as the growing demand for transition metals, and the prevalence of nearshoring.
- With Fidelity Emerging Markets Limited’s unconstrained ‘go anywhere’ approach to investing, we also see unique opportunities among mid cap companies in Latin America.
- While Latin America outperformed broader emerging markets over 2022, it remains cheap relative to both its history and developed markets and offers strong structural growth potential.
Over the last year, Latin America’s stock markets have defied expectations as investors have been attracted by compelling valuations, a relatively resilient macroeconomic backdrop, and exposure to commodity producers.
Although events of recent years have shown that the election cycle and regime changes can impact the market environment, we think the region provides significant opportunities for investors as businesses globally rethink supply chain configurations, seek to diversify risk, and look to gain access to commodities that will help power the low-carbon economy.
Our positive view on the region and overweight exposure in Fidelity Emerging Markets Limited is supported by several interesting themes that are emerging, such as the growing demand for transition metals and the prevalence of nearshoring. We also see the opportunity to gain exposure to smaller companies that are further down the market cap spectrum. These companies offer exciting avenues of potential growth but have largely been overlooked by global investors.
Powering the low carbon transition
Latin America is a commodity-rich region and is home to companies that produce a whole raft of materials, from oil and gas to sugar, wheat and metals. We focus on the mining companies that produce the ‘transition metals’ vital to powering the low-carbon economy. Clean energy technologies are commodity intensive with, electric vehicles, for example, requiring six times the amount of minerals that a conventional car does – and within this, twice the amount of copper.
Looking specifically at copper, we can see that this anticipated uptick in demand is combined with a significant shortfall in supply, due to a lack of investment in the metal over the last decade and limited projects in the pipeline. With the market set to get tighter, we have a positive outlook for copper prices and producers of the metal over the medium to long term. One of the ways to gain exposure to this nascent theme is through companies such as Mexico’s largest miner, Grupo Mexico. We also like Peru-listed Southern Copper, a company that is majority owned by Grupo Mexico.
Shifting supply chains will drive growth
The second theme that we believe is set to drive significant growth in the Latin America region is that of nearshoring. This will predominantly benefit Mexico, where we anticipate considerable growth as the US looks to shift its supply chains away from China and closer to its own borders.
Our team recently visited Mexico and saw first-hand the positive impetus that nearshoring is set to have on Latin America companies. Our meetings with companies indicated that this is set to be a real tailwind for the country as companies build factories and support employment growth in the region. Currently, Mexico exports just under US$400bn per year to the US and some estimates suggest that nearshoring could add an incremental USD$100-150bn.
Mexico’s exports to the US
Source: Trading Economics, April 2023, US Dollars
Any increase in exports from Mexico to the US will ultimately support a whole range of industries, including manufacturing, heavy industry, logistics, real estate, and transport. We see a number of Mexican companies that are set to be key beneficiaries of this trend, including railroad transportation business GMexico Transportes, as well as GCC, a cement producer and supplier.
Overlooked gems
With our unconstrained ‘go anywhere’ approach to investing, we also see unique opportunities among selected smaller and medium-sized companies in Latin America. One of these is Brazilian heavy rental equipment provider Armac. Brazil has a high prevalence of heavy industries, including pulp and paper, mining, and agriculture, all of which require heavy machinery. Armac currently accounts for 1% of the highly fragmented Brazilian market but is five times as large as the number two player. We expect that Armac could one day be 10 times the size it is today.
Another smaller company that has significant potential is Brazilian IT services company Cielo. The company produces legacy POS terminals – hardware systems for processing card payments. With a falling market share in an increasingly competitive environment, the company has struggled in recent years. We bought it at a very attractive valuation and since then the company has demonstrated an ability to stabilise its market share, pass on price increases and deliver higher volumes that have boosted earnings. Cielo is the industry’s lowest cost operator and we believe it is well placed to maintain market share in an industry that is set to experience considerable growth.
Overall, despite the recent relative outperformance of Latin America, particularly in 2022, it is important to recognise that the region remains cheap relative to both its history and developed markets. Just like the broader emerging markets complex, Latin America is a diverse region offering exciting opportunities across different industries and among companies of all sizes.
Fidelity Emerging Markets Limited (LON:FEML) is an investment trust that aims to achieve long-term capital growth from an actively managed portfolio made up primarily of securities and financial instruments providing exposure to emerging markets companies, both listed and unlisted.
Important information
This information is for investment professionals only and should not be relied upon by private investors. The value of investments and the income from them can go down as well as up so clients may get back less than they invest. Past performance is not a reliable indicator of future returns. Investors should note that the views expressed may no longer be current and may have already been acted upon. Changes in currency exchange rates may affect the value of investments in overseas markets. Investments in emerging markets can be more volatile than in other more developed markets. Reference in this document to specific securities should not be interpreted as a recommendation to buy or sell these securities and is only included for illustration purposes. Fidelity Emerging Markets Limited has, or is likely to have, high volatility owing to its portfolio composition or portfolio management techniques. It can use financial derivative instruments for investment purposes, which may expose it to a higher degree of risk and can cause investments to experience larger than average price fluctuations. The shares are listed on the London Stock Exchange and their price is affected by supply and demand. The trust can gain also additional exposure to the market, known as gearing, potentially increasing volatility.
