Mexico: An Emerging Success Story

12/03/2013 10:00 am EST

Focus: GLOBAL

Stephen Leeb

Founder and Research Chairman, Leeb Group

Mexico is unique among emerging markets due to its massive border with the United States, with whom it also enjoys one of the most far-reaching and ambitious free trade agreements in the world, explains Stephen Leeb in The Cash Cow.

For these reasons, Mexico's economy is highly levered to that of the United States, so when the US is doing well, so is Mexico, and vice versa.

Indeed, returns in the Mexican stock market, since the end of the financial crisis, have been strongly correlated with those in New York.

From this perspective, Mexico has the wind at its back. A steadily improving US recovery cascades into Mexico arguably better than any other emerging market.

Indeed, as the low-cost labor advantage enjoyed by Asian nations has narrowed, Mexico's advantages as a low-cost manufacturer of products headed to the US has only increased.

Barring a total derailment of the US economic recovery, the trade relationship with the US suggests Mexican equities will likely outperform other emerging market stocks over the next 12 months.

Further, key economic reforms underway under the new leadership of President Nieto are the most ambitious in Mexico's history, and promise to change long-standing impediments to economic growth, productivity, and competition.

A revamped tax code will encourage and reward investment—long an area of neglect in Mexico. And unlike most developed and many developing nations, Mexico's finances are largely in order, with a balanced budget, and a debt to GDP ratio of only 42%.

iShares MSCI Mexico Capped ETF (EWW) is the sole Mexico-specific ETF, boasting $2.9 billion in assets, spread across 45 holdings. It is both cap-weighted and float-adjusted, so that it accurately reflects 99% of the Mexican market available to foreigners.

The fund is fairly concentrated, with roughly 58% of assets in the top ten positions, and carries a large-capitalization bias—75% is deployed into large- or mega-cap companies.

This doesn't bother us, though, given EWW's preponderance of profitable, wide-moat, industry-dominating firms. Plus, most of these firms are really plays on Latin America as a whole, not just Mexico.

The fund's top five positions—America Movil, SAB, GrupoBanorte, GrupoTelivisa, and Wal-Mart Mexico—belie EWW's substantial exposure to consumers. Fully 35% of the portfolio is consumer-oriented, dedicated to Latin America's rapidly growing middle class.

But other world-class companies are in this ETF too, such as retailer Formento, bottler Coca-Cola Femsa, and construction materials behemoth CEMEX.

For a pure play on what we think will be an emerging market success story, driven primarily by historical reforms in Mexico and a recovering US economy over the next year or so, EWW can't be beat.

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