The Bull And Bear Case For Latin America ETFs In '14

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Latin America, last year's global laggard, may be the hot destination in the New Year for investors lured by cheap valuations and forecasts for double-digit earnings growth.

IShares S&P Latin America 40 Index ( ILF ) lost 13% in 2013, whileiShares MSCI Emerging Markets Index ( EEM ) shed 4%. Both severely lagged developed markets as tracked by iSharesMSCI EAFE Index ( EFA ), which rallied 21%.

Latin America mutual fund outflow hit a record high of nearly $12 billion in 2013 -- a steep pickup from $1.6 billion of outflow the prior year, according to EPFR Global. Outflow from mutual funds investing in Brazil totaled $6 billion -- a marked reversal from the prior year, when they absorbed $307 million.


Latin America plunged into a bear market last year amid a confluence of macroeconomic head winds. Interest rates, inflation and trade deficits shot up, while commodities prices, currencies and export growth dwindled. The MSCI Latin America index fell 16% in 2013 measured in dollars, but it fell only 7% in local currencies.

"As growth and earnings recover and the political noise fades, equities could begin to outperform," Bank of America Merrill Lynch wrote in the "LatAm 2014 Year Ahead" report. The more commodity-driven South American countries such as Brazil face a challenging year, with inflation steady at 6% and weak real-wage growth. But economic growth in Brazil should accelerate modestly this year thanks to the FIFA World Cup in June and July and presidential elections in October.

BofA Merrill LatAm economists expect Brazil's economic growth to accelerate slightly to 2.6% in 2014 from 2.3% in 2013. But it's a sharp slowdown from an average annual growth of 3.7% from 2006 to 2012. They see exports dipping 1% from last year and real investments declining 5%.

Among Latin American countries, BofA Merrill strategists are most bullish on Brazil, given its "upside potential." Its market trades at bargain valuations of 11 times prospective earnings and less than one times sales, while yielding 3%. Earnings are forecast to increase 15% in 2014.IShares MSCI Brazil ( EWZ ), tracking the region's largest economy, skidded 17.5% in 2013, whileWisdomTree Brazilian Real ( BZF ), measuring the country's currency against the dollar, sank 8.5%.

In the bearish camp, investment strategists at Newedge USA LLC warn that Brazil's economy faces a "full-blown recession" and a credit-rating downgrade stemming from President Dilma Rousseff's massive deficit spending. Nationwide riots last summer following a bus fare increase prompted the government to boost spending.

But ever-growing budget deficits lead to more debt issuance, which weakens the currency, fuels inflation and leads to foreign capital outflows, Newedge wrote in a 2014 outlook.

ILF nearly tripled from its post-Great Recession low of 19.54 in November 2008 to a recovery peak of 55.38 in April 2011, then rolled over.

Unlike the U.S. stock market , it never recovered its pre-recession peak. It trades deep below both its 50- and 200-day moving averages, indicating a severe downtrend. But last year's underperformance makes for a likely "catch-up" "reversion-to-the-mean" trade, given cheap valuations. ILF trades at a price-to-forward-earnings ratio of 12, price-to-book of 1.6 and price-to-sales of 1. By contrast, EFA trades at a much higher P/E of nearly 15 with similar P/B and P/S ratios.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , ETFs

Referenced Stocks: BZF , EEM , EFA , EWZ , ILF

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