View this email in your browser

76report

June 7, 2024

Mexico lurches left: Another setback for EM

Claudia Sheinbaum was elected President of Mexico on June 2, with overwhelming support. Preliminary results indicate that she received more votes than any other candidate in Mexican history and had the highest percentage support of any candidate since the 1980s. She carried 31 out of 32 Mexican states.

Media around the world celebrated the election of Mexico’s first female president. Her Jewish heritage also represents a first and has sparked global curiosity and attention.

While media coverage was generally fawning, markets had a more adverse reaction. The Mexican Peso immediately declined relative to the U.S. dollar. After stabilizing somewhat over the next few days, the peso ended the week more than 7% lower versus its pre-election trading levels.

The Mexican stock market also sold off. The iShares MSCI Mexico ETF (EWW) traded down approximately 11% on June 3, the day after the election, reflecting both weakness in the peso and lower local prices for Mexican stocks.

Stocks in Mexico recovered a little bit in the days following the election but then lost more ground. As of the end of trading on June 7, EWW is now down 13% from its May 31 close, the trading day before the election results were reported, with further weakness in the peso.

Sheinbaum’s victory, as the candidate of the leftist Morena (National Regeneration Movement) party, was anticipated prior to the election itself. Mexican stocks were already sliding in the weeks leading up to the vote.

Over the past month, EWW has significantly underperformed both the S&P 500 ETF (SPY) and the iShares MSCI Emerging Markets ETF (EEM), which has delivered a positive return despite being brought down somewhat by its Mexican holdings.

While Sheinbaum’s election was anticipated, given her significant lead in the polls, investors in Latin America generally did not anticipate the scale of the Morena party victory. Initial reports suggest the party, through coalition partners, will control some 350 to 380 seats in the lower house of Congress, which represents a supermajority.

In the upper house, Morena is also close to a supermajority and, if it ultimately falls short, is seen as having the ability to negotiate deals with politicians from the other side. At the local level, the Morena coalition won three-quarters of all governorships and has achieved supermajorities in at least two-thirds of state congresses.

The chief concern of investors is that previously proposed Constitutional amendments by the Morena party will erode institutional independence across Mexican government, including the judiciary. The key risk from an investment perspective is that Mexico devolves into another dysfunctional Latin American country where property rights are not respected.

Doubling down on statism

Populism is a key theme sweeping electoral politics around the world. Voters have become increasingly skeptical of the establishment and elites. Pandemic, inflation and war are likely contributors to this general feeling, with an assist from social media.

As we witnessed with the Arab Spring, social media facilitates the spread of anti-establishment narratives that may have not otherwise reached audiences. In prior eras, voters were highly reliant on state-sponsored or state-friendly media sources. Now they have access to all kinds of information that does not necessarily paint their leaders in a flattering light.

Populism can take many forms. Left-wing populism, like what we are witnessing in Mexico, generally calls for a larger and more interventionist welfare state. Right-wing populism, as represented by Donald Trump and Argentina’s newly elected President Javier Milei, rejects statism and places emphasis on individual rights and liberties.

In some cases, the lines blur. Conservative populists in the United States, for example, tend to favor tariffs and aggressive antitrust enforcement, positions shared by supporters of Bernie Sanders. While right-wing and left-wing populists differ over the size and scope of the state, there is a tendency to agree that corporate power needs to be constrained and made more answerable to the people.

Why should these—the biggest, most powerful technology companies in the history of the world—why should they be insulated from accountability when their technology is encouraging people to ruin their relationships, break up their marriages, and commit suicide? - Senator Josh Hawley, conservative populist

There is no ambiguity as to which type of populist Claudia Sheinbaum represents, although her politics have an unmistakably globalist character, as one might expect from a Berkeley-educated climate scientist.

She is not a populist in the mold of Venezuela’s Hugo Chavez, a Marxist militant who was inspired by Che Guevara as a young man. Her priorities are more in line with those of the Davos crowd. She was in fact a lead author of the UN’s Intergovernmental Panel on Climate Change Fifth Assessment Report, a document that is heavily relied upon to drive global carbon emissions policies.

Perhaps reflecting her time in northern California, Sheinbaum is also an outspoken defender of gender fluidity. As Mayor of Mexico City, she fought to dismantle gender-based dress codes in schools, as early as 2019, before many of us were even made aware that pronouns were a matter of choice.  

The era when girls had to wear a skirt and boys had to wear trousers has been left behind, I think that’s passed into history… Boys can wear skirts if they want and girls can wear pants if they want. - Claudia Sheinbaum, 2019

If one strongly believes that gender is a mere social construct, the boundaries of national borders are probably not seen as sacred either. She has paid lip service to assisting the United States with the immigration crisis, but this is not seen as a major priority for her administration.

While Americans tend to focus on Mexico for its role in our ongoing immigration crisis, Mexicans are focused on crime and public safety as the drug cartels continue to wreak havoc. Sheinbaum, along with all the candidates, has provided strong rhetoric that she would address this top concern among voters, but what she will actually be able to accomplish remains to be seen.

From an economic perspective, Mexico has been expected to benefit from “re-shoring” as supply chains are consolidated to geographically closer locations. A constructive investment case for Mexico positions the country as a winner as production shifts from China and elsewhere in Asia to the Americas.

Despite this tailwind, the generous welfare policies of Sheinbaum’s predecessor and mentor, current President Obrador, leave her with a deficit problem that could require higher taxes. Unlike the United States, Mexico doesn’t have the luxury of kicking the can on its fiscal problems and faces what would be a highly problematic debt downgrade if it cannot get its budget in order.

A decade of disappointment

Investors in emerging markets have generally speaking been deeply disappointed over the past ten years. While the S&P 500 has produced a better than 300% return, emerging markets as a whole have delivered close to zero.

Remove top performers Taiwan Semiconductor (TSM) and Samsung Electronics (SSNGY), which are arguably misclassified as EM stocks despite the fact that Taiwan and South Korea are still considered EM economies by MSCI, and the results would be even more dismal. TSM and Samsung are combined more than ten percent of the most commonly referenced emerging market index.

Chinese equities, led by its internet giants, encountered a wave of enthusiasm post-Covid, but this has fizzled out in the wake of Xi’s crackdowns. India is one of a few bright spots in recent years, thanks to a renewed focus on economic growth and liberalization under Prime Minister Modi, who was narrowly re-elected recently.

Arguments for allocating to emerging markets tend to revolve around statistical cheapness and diversification benefits, but politics somehow always seems to get in the way.

On a positive note, ever since free market reformist Javier Milei was elected President of Argentina on October 22, 2023, Argentinian stocks have significantly outperformed not just emerging markets but the S&P 500 as well. Hopefully, voters in emerging market countries around the world are paying attention.

Disclaimer

FOR SUBSCRIBER USE ONLY. DO NOT FORWARD OR SHARE.