Latin America’s Wall Street Veterans Draw Biggest Bond Funds

  • Managers of $77 billion shift allocations to Brazil, Mexico
  • Emerging Europe loses favor as Templeton exits Poland, Hungary

Latin America’s post-populist shift is persuading the world’s biggest emerging-market bond investors to put more money in the region, and there are signs that eastern Europe is paying the price.

Franklin Templeton’s $51 billion Global Bond fund more than tripled its holdings in Brazil to 14.8 percent in the six months to March 31, according to public filings, while halving exposure to emerging Europe. Five of the largest developing-country focused fixed-income funds, managing $25.7 billion, all raised Latin American exposure in the past year, data compiled by financial research company Morningstar Inc. show.

"Latin America is where the opportunity is," said John Carlson, a Boston-based money manager at Fidelity Investments whose $4.25 billion New Markets Income Fund has "pretty stable" overweight positions in Brazil, Venezuela and Mexico and bought Argentinian Eurobonds last month. "There’s positive political change."

Enthusiasm for a region facing its second year of recession while the rest of the emerging world grows, stems partly from a political shakeup that’s giving former Wall Street bankers prominent government posts in Brazil and Argentina. While these new leaders aim to draw a line on the policies of populist predecessors that exacerbated budget deficits, Poland has suffered capital outflows since a new government installed in November led S&P Global Ratings to downgrade the country for splurging on social spending and encroaching on state institutions.

‘More Interesting’

Investors were more than 4 percent overweight in Latin America at the beginning of last month, while they were underweight emerging Asia, Europe, the Middle East and Africa, Morgan Stanley analysts said in a research note published April 27. In addition to the political shift, Latin America’s resource-rich economies, such as Mexico, are also benefiting from oil’s 74 percent rebound from 12-year lows in January.

The average yield on the Bloomberg Latin America Sovereign Bond Index has fallen 34 basis points in 2016 to 5.61 percent, compared with 4.58 percent for an equivalent index of debt from emerging Europe, the Middle East and Africa. Brazil’s 10-year local bonds yield four times more than equivalent Polish debt.

“Latin America is way more interesting than eastern Europe right now,” Jan Dehn, London-based head of research at Ashmore Group Plc, which manages about $50 billion in emerging markets, said at a press briefing earlier this month. “Over the next year and a half you’re going to see the biggest pick up in global growth out of Latin America because they’ve had the biggest dip. You see this massive change, with populists leaving in Argentina, Brazil and very likely Venezuela as well.”

Hasenstab’s Call

Templeton’s Michael Hasenstab, the world’s biggest investor in emerging-market bonds, has been shifting money from Poland and Hungary to Brazil, Mexico and Colombia since the final quarter of 2015. The three Latin American countries now account for more than 30 percent of the fund.

Brazil’s local-currency debt has returned 34 percent this year, the most in the developing world, amid a political shake-up that has led to the suspension of President Dilma Rousseff, whose successor inherits a near-record budget deficit. Argentina’s new President Maruicio Macri has slashed subsidies, removed currency controls and prioritized attracting foreign investment.

Macri’s cabinet includes Finance Minister Alfonso Prat-Gay, previously a currency strategist at JPMorgan Chase & Co. His Brazilian counterpart is Henrique Meirelles, a Wall Street veteran and former central banker renowned for taming inflation. Meirelles this month named Itau Unibanco Holding SA’s chief economist Ilan Goldfajn to head the central bank.

Meanwhile, policy makers in some of the biggest economies in emerging Europe are moving in a direction that’s deterring investors. In Poland, where the ruling Law & Justice party has muscled in on institutions, 10-year bond yields have risen 18 basis points in the past 12 months as the country’s haven status gets diminished. Turkish bonds slumped this month amid a political reshuffle that threatened to remove a team of market-friendly policy makers from office.

Commerzbank AG recommended investors shift funds from central and eastern Europe into Brazilian local-currency debt in a note published last month. The British referendum on European Union membership further increases political risks to developing Europe, according to analysts including Simon Quijano-Evans.

The rush for Latin American debt could be short-lived if global risk-sentiment sours. Developed-country assets have tumbled this month, as signs increased that the Federal Reserve will raise U.S. interest rates as soon as June.

It’s not just politics luring investors to Latin America. Carlson of Fidelity, whose fund beat 80 percent of peers over the past year, said he’s holding more Mexican debt in companies like Petroleos Mexicanos than "I ever have in my career" amid a commodities rally.

“It’s a safe assumption to say that as flows come back to emerging markets, it will go to Latin America rather than eastern Europe," Carlson said. “The possibility for spread tightening still exists."

Before it's here, it's on the Bloomberg Terminal.