Mexico is now a ‘screaming buy’ for investors, thanks to Donald Trump


While a lot of investors are moving into sectors they think will benefit under a President Trump – such as financials, industrials and health care – the true contrarians among us are doing exactly the opposite.

We’re asking: What’s been unjustifiably sold off because of the Trump victory?

Top on our list: Mexican stocks.

They’re now down 16% from right before the election. Investors are exiting Mexico on fears that Trump will tear up the North American Free Trade Association (NAFTA) agreement and crack down on remittances by Mexican workers back to the motherland.

But like a lot of Trump campaign bombast, those promises likely won’t be kept. Or if they are kept, it will happen in some watered-down form, and several years from now.

The upshot in all of this: Investors are pricing too much fear and loathing into Mexican stocks. That makes them look like a “screaming buy” here, according to Larry McDonald of The Bear Traps Report. “The risk-reward over the next 60 days is very good. You can make 15% to 20%.”

Here’s why.

Trump will back away from the anti-trade rhetoric

Trump got a lot of support by campaigning hard against NAFTA, which took effect in 1994. He described it as “the worst trade deal maybe ever signed anywhere, but certainly ever signed in this country.” Because over 80% of Mexican exports go to the U.S. (representing 26% of Mexican GDP), the country would suffer dearly if Trump tore up the trade deal and slapped hefty tariffs on stuff coming in from Mexico.

But there are lots of reasons why he’ll now back away from this bombast.

For one thing, in the first 100 days of his presidency he will have other priorities, such as tax reform, repatriation of overseas funds and infrastructure spending, says McDonald. McDonald thinks any new trade deals will likely be pushed off until 2018.

Next, whatever reform happens will be watered down because the U.S. has a lot to lose from sharply curtailed trade with Mexico.

“The two countries are tied closely together. It’s not as if you can exert pain on Mexico and not have it come right back to you,” says Chuck Knudsen, portfolio specialist for emerging market equity strategies at T. Rowe Price. “This will become more apparent to politicians as they try to implement those promises. The reality is there will be some adjustments, but at the end of the day the trade relationship between Mexico and the U.S. will stay in place.”

McDonald agrees there will be some protectionist policies put in place – eventually.

“But we are not going back to the pre-NAFTA days, and Mexican stocks are pricing in that kind of horror,” he said. It’s worth pointing out that McDonald is an avowed Trump supporter, not someone motivated to diss him because he dislikes the man.

Mark Mobius, executive chairman of the Templeton Emerging Markets Group, also tells me he’s been taking advantage of the weakness in Mexican stocks to invest in the country because of the challenges Trump faces in carrying through on promises to throw up trade barriers.

“The U.S. and Mexico are simply too tied to each other at this stage to effect a major change,” says Mobius.

Cheap guitars, jobs and supply chains

To see why, it pays to drill down on a 34-page report by Credit Suisse analyst Alexander Redman called “Buying back Mexico by cutting South Africa.” This is probably the most comprehensive Wall Street report on the potential Trump victory fallout for Mexico. Many of the key points you might see circulating in this debate come straight from Redman’s excellent report, whether he gets proper attribution or not. (Often, he doesn’t, which is regrettable.)

Take jobs, for example. Citing research by the Wilson Center, a think tank, Redman points out that about five million U.S. jobs are linked to trade with Mexico in one way or another.

Next, there’s all the inexpensive stuff we enjoy buying from Mexico. It would get more costly, sparking a consumer backlash. Consider guitars, an area I know pretty well. You can buy a Mexican-made Fender Telecaster, similar to the guitar Bruce Springsteen plays, for about $500-$600, compared with $1,200 for the U.S.-made version. Sure, the quality is lower. But Fender’s Mexican Telecasters are quite good. And losing them, or seeing them go up a lot in price, would take away an option for budding musicians on a budget. Likewise, the prices of many of cars, appliances and electronics would go up a lot, too.

Related to this, after 22 years of free trade under NAFTA, a lot of U.S. companies now have complex supply chains in place that run throughout Mexico, says Redman. You can bet these companies will complain loudly to their politicians if those supply chains get disrupted.

“The collateral damage to corporate America would be immense,” says Redman. That’s why he thinks that when President Trump takes office “the protectionist rhetoric will be softened versus that delivered during the election campaign.”

Trump faces challenges in any crackdown on cash remittances by Mexican workers back to Mexico, too. They send back an estimated $26 billion a year, or 2.3% of Mexican GDP. It’s a meaningful amount, for Mexico.

But the money is probably not at risk. It’s going to be tough for Trump to round up all Mexicans here illegally, about 6.7 million people according to the U.S. Department of Homeland Security. Instead, he will focus on those with criminal records, an estimated 1.5 million people, says McDonald. That would leave 32.2 million people in the U.S. of Mexican origin, to continue sending money back. Using Census Bureau data, the Pew Research Center estimates 33.7 million people of Mexican origin resided in the U.S. in 2012, including 11.3 million immigrants.

“We find it highly unlikely that the Trump administration will succeed in fully implementing the campaign pledge for the full repatriation of unauthorized immigrants,” says Redman.

In a worst-case scenario (repeal of NAFTA, the related decline in U.S. direct investment in Mexico, and a broad crackdown on immigrants and their remittances) Mexico would lose about 6% of its GDP, estimates Redman.

Redman doesn’t expect that worst-case scenario to play out. But even if it did, the country would still have a lot going for it, to support growth. For example, in dollar terms, labor is now cheaper in Mexico than it is in China, points out Redman. So manufacturers would still want to set up there. Next, the weakened peso makes stuff made in Mexico look cheaper to the world. That supports export growth to the U.S. and elsewhere, says Mobius, which is a positive for Mexico.

And while the Mexican consumer is strong, there is plenty of potential upside here. That’s because consumer borrowing is low, so consumer debt has plenty of room to grow. Just 15% of Mexicans have a credit card, points out Redman. And the private-sector credit-to-GDP ratio is only 25% compared to four times that much in the other nine of the top 10 emerging market economies. This provides plenty of scope for loan growth, says Redman.

How to invest in Mexico

The easiest way is to buy shares of the iShares MSCI Mexico exchange traded fund Beyond that, several Mexican companies trade as ADRs here, or with pink-sheet listings that trade substantial volume. Which ones to buy? “The domestic consumer economy is doing well, so consumer stocks would be of interest,” says Mobius.

Mobius won’t name names. But I will.

I suggest focusing on strong brands like Walmex which Goldman Sachs analysts have a “buy” rating on, in part because it is taking market share. This is the Mexican division of Wal-Mart

Or consider Coca-Cola Femsa rated “buy” by both Goldman Sachs and Credit Suisse. It has sold off even though it is a defensive consumer-staples play with a powerful brand. This brand power is one reason why Warren Buffett owns a lot of Coca-Cola

Analysts at Credit Suisse also like Banco Santander (México) because it has a high-quality loan book, and solid growth in net interest income.

Finally, with the peso down so much, you can expect an influx of tourists. That will help airport companies. The key is to favor those that do a lot of international as opposed to domestic traffic, points out Goldman Sachs analyst Márcio Prado. He cites “buy”-rated Grupo Aeroportuario del Sureste as an example. If you have ever flown to Cancun, you have gone through one of its airports.

The big risk: NAFTA la Vista

To be sure, there are risks with Mexico, of course. The executive branch has broad powers in foreign affairs. Though it’s not entirely clear from a legal perspective and any decision along these lines would probably be challenged in court, a President Trump probably does have the power to “unilaterally deliver major change” in trade relations with Mexico, says Morgan Stanley analyst Arthur Carvalho. lf he does, it will mean “NAFTA la Vista,” he says. “The new president could make good on his threat to withdraw from NAFTA.”

That would be terrible news because “for Mexico there is no Plan B to offset the potential blow from protectionism to the country’s export-focused North American centric economic narrative,” says Carvalho.

And even if Trump doesn’t go this route, the uncertainty in the interim could take a toll on business confidence and investment in Mexico. That alone could be bad news for Mexico.

“This wasn’t an economy that was roaring ahead on all cylinders,” says Knudsen, at T. Rowe Price. “There has been some deceleration, particularly on the industrial side.”

At the time of publication, Michael Brush owned KOF and T. Rowe Price mutual funds. Brush is a Manhattan-based financial writer who publishes the stock newsletter, Brush Up on Stocks. Brush has covered business for the New York Times and The Economist group, and he attended Columbia Business School in the Knight-Bagehot program.

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