Beyond Brazil: Latin America's capital markets gather momentum

If 2012 exposed Latin America’s dependence on commodities and international demand – with lower economic growth recorded across the region – it also provided something of a landmark for its equity capital markets, as the traditionally dominant Brazil was outperformed by the rest of the region.

According to data provider Dealogic, in 2012 Brazil experienced the lowest deal volumes since 2005, with $7.6bn raised through 28 deals, representing a 32% decline in deal volume compared to 2011. The rest of Latin America experienced its second best year on record, with Latin American issuers – excluding those in Brazil – raising a total of $16.5bn through 42 transactions. This included $9.1bn across 17 initial public offerings (IPOs), making it the best year on record for IPOs.

“If you look at what happened outside of Brazil, the year was very good; unprecedented, I would say, in the history of capital markets in Latin America,” says Facundo Vazquez, head of equity capital markets in Latin America for Bank of America-Merrill Lynch (BAML). In terms of capital, Brazil accounted for 32% and the rest of the region for 68%. “I cannot recall a year with that mix,” says Mr Vazquez.

Barriers to Brazil

So, what went wrong in Brazil? Disappointing economic growth and detrimental government policies seem to offer the answer. Brazil’s gross domestic product (GDP) is estimated to have grown by only 1.5% in 2012, almost half of 2011's figure and a far cry from the 7.5% growth the country experienced in 2010.

Meanwhile, new government policies deterred many would-be investors from doing business in the country. Fabio Nazari, a partner and head of equity capital markets at BTG Pactual, points to the last IPO that took place on São Paulo’s stock exchange in 2012, a $873m listing of Taesa, a unit of power company holding Cemig. It came to market in July, just before announcements of important alterations to concession rules in Brazil's utilities sector through the MP579 legal act, which affects remuneration of companies. Furthermore, a long dry spell left the country’s hydropower plants low on water and fears that power rationings will be implemented have started to spread.

“The damage [of government intervention] in the utility sector was [incredible],” says Mr Nazari. “When we take into consideration power rationing, as soon as this subject starts to come up in discussions, we already [feel its effects]. It is not a power rationing per se, [but it influences] companies’ appetite for investment. If they think they will suffer a lack of electricity, instead of expanding at 25% of their capacity they may expand at 20% or 15%, and that is going to go directly to their earnings [forecasts].” BTG Pactual’s own $1.7bn IPO, in April 2012, was the second largest in Latin America and the only Brazilian deal in the top five Latin American issuances in the year.

Others fear that cheap funding and growing equity investments into businesses provided by Brazilian development bank BNDES have, on one hand, accelerated the growth of these companies during good economic cycles, but on the other, have increased government control in them – something that foreign investors are not always comfortable with, particularly in adverse economic cycles.

Citi’s head of equity capital markets for Latin America, Juan Carlos George, says: “The concern is that the government will be making decisions for their companies. Obviously Petrobras and Vale are the two largest companies controlled by the government but, importantly, slowly and steadily, BNDES, which is obviously owned and controlled by the government, has increased its stakes in other businesses.”

Another banker says:  “I cannot pinpoint that the one reason why Brazil underperformed [in equity capital markets] is government intervention, but I personally believe that the profile of the Brazilian government does not suit the current market environment.”

Big spenders

While Brazil faltered, other countries were picking up the slack and in 2012, investors showed much more enthusiasm for the rest of Latin America.

The region’s headline deal was in Mexico: the $4.1bn listing of Santander’s local operations on the Mexican stock exchange. The exchange also hosted a $1.2bn offering from Mexichem, the country’s largest chemical company, and a $1bn IPO by real estate firm Fibra Macquarie. These were the first, third and fifth largest equity deals in the region, respectively. According to Dealogic, the fourth largest deal came from Chile, where shipping company Compania Sud Americana de Vapores made a $1.2bn issuance.

Across Latin America, increasingly stable political scenarios, sustained open market policies and growing consumer markets are opening up countries beyond Brazil. And, while Brazil's GDP slowed in 2012, other countries recorded strong growth, such as Peru with a GDP forecast for both 2012 and 2013 of 6%.

“The big investments come from the global macro funds: those are the guys that can really move the needle of the market,” says BAML's Mr Vazquez. “Brazil was for many, many years a macro call, [similar to] India or China, so if you want to be exposed to Brazil you buy anything that is out there. Now, Brazil is more a stock-picking market, a more mature market. People have been underweight in Mexico, Peru and Colombia, and right now these are a macro call; investors want to be exposed to GDP.”

Local markets

Mexico, traditionally the second largest market in Latin America, had a good year in 2012, with estimated GDP growth of 3.5% and a number of significant transactions taking place on the country's exchange. International investors have become more sizeable and include Asian funds, which have started to appear in the equity space after having tested the waters in the fixed-income market, according to the Mexican stock exchange’s senior vice-president of markets and information, Jorge Alegria.

“Over the past couple of years, international investors have become much more noticeable,” he says. “We started to see international funds looking for Mexican government debt issuance – this is where we started to see interest from Asia. Since 2012, we have seen that shift into equity as well.”

Furthermore, deals such as Mexichem’s $1.2bn issuance and a $851m IPO by petrochemical company Alpek proved that local issuers do not necessarily need to list abroad or issue US depositary receipts to attract foreign buyers. According to Mexico’s stock exchange, international investors represented 60% and 50% of the total number of investors in those deals, respectively.

“As an exchange, it is very important that you can do a big IPO, a big transaction in the local market but at the same time you can get fair, quite important, international participation,” says Mr Alegria. “We saw that especially with the Alpek and Mexichem deals; we saw a fair amount of international participation and the shares were locally listed only.”

Mexico's ability to attract more foreign money to local markets and better economic prospects may crack Brazil’s dominance in the equity capital markets. BTG Pactual’s Mr Nazari says: “From an investors’ standpoint, it is kind of a structural call: being short on Brazil, being long on Mexico and the Andean region. The situation could be a bit rebalanced in favour of Brazil but not enough to recover its position as dominant player in the region. So maybe we can see a 50/50 [split] of capital raised between Brazil and the rest of Latin America.”

Bubbling under

Indeed, it is not just Mexico that is threatening Brazil's dominance in the region. Investor interest in the region has culminated in the formation of a Latin American integrated market, MILA, which includes the exchanges of Chile, Colombia and Peru. Experts say that positive results are already evident in the secondary trading market and fixed-income space, where institutional investors, in particular the well established Chilean investment funds, are taking advantage of opportunities across national borders.

Mexico’s stock exchange is an observer in MILA and is studying what regulatory changes will be needed to join in the future. “Mexican funds want to get some exposure in Colombia, Peru and Chile as much as Chilean investment funds investing in Mexico; it works both ways," says Mr Alegria.