Choose Mexico over China

China’s impending soft landing means investors are looking elsewhere for returns. Turns out, we don’t have to look far: Mexico is one of the next hot markets.

So said the global equity team at AGF Investments Inc., led by Stephen Way, at a presentation this morning in Toronto.

Read: Soft landing in the cards for China

The country’s manufacturing sector is booming, and it’s entering a period of economic reform that will lead to even smoother sailing.

The Mexican president-elect, Enrique Pena Nieto, is committed to decisive economic reforms, including expanding the tax base, privatizing state-owned oil corporations, and allowing companies to pay more workers by the hour.

So U.S. companies are taking notice, says Alpha Ba, vice president and portfolio manager at AGF.

“When you hear about the re-industrialization of the U.S., it’s via Mexico,” he says.

That’s because hourly wages have quadrupled in China since 2002, but they’ve only risen by 20% in Mexico over the same period. As a result, it only costs US$0.17/hour more to employ Mexican workers.

Read: Choose China over India

And these days, that’s easily compensated for by the lower transportation costs between the U.S. and Mexico—a relatively permanent advantage that’s leading American firms to move their outsourcing south.

That’s leading to a rise in small- and medium-sized enterprise growth, which is difficult to play via the equities market, says Ba.

So he’s chosen to invest in Banorte, a Mexican bank that’s lending heavily to the SME market. Ba adds European banks are retrenching in emerging markets, and ceding market share to these domestic players.

The rise of the consumer class

Another attractive company in Mexico is FEMSA, a Coca-Cola bottler and convenience store operator, says Timothy Codrington, associate portfolio manager with AGF.

When he started covering the stock in 2002, its market cap was $4 billion and the company predicted it could open around 4,000 stores in the next few years. Today, its market cap is $30 billion and it’s the largest convenience store operator in the Americas, with more than 10,000 locations.

This exponential growth is due in part to the rise in living standards for the average Mexican.

“You used to just buy a drink or a beer [at the convenience store],” Codrington says. “Now, Mexicans buy breakfast, groceries, lunch; they upgrade their telephone cards, and they do their banking.”

Read: Tasty Profits

FEMSA has adapted well to this change in behaviour, and recently acquired a pharmaceutical company—they’ll be like the Shoppers Drug Mart of Mexico, says Codrington.

Mexico is home to several monopolies and oligopolies, adds the team. Two media companies control the whole market; two beer companies control 98% of the market, and four mobile companies 96%. That means these companies have pricing power, making them attractive buys.

They do trade at higher premiums, which can scare away some investors. But “people don’t understand [those companies] are scarce assets,” that will grow as the consumer class becomes wealthier, says Codrington.

Read: Stock picking’s not dead

Investing in Mexico isn’t without risk. The country has a reputation for violence and the murder rate is 22.6 homicides per 100,000. But Ba says that’s a six-year high, and based on patterns in other major cities, that’s usually the peak.

And the team isn’t overly concerned about Mexico’s exposure to the U.S. fiscal cliff, citing healthy domestic growth. And, “if we’re going to have exposure to the G7, we’d rather have exposure to the U.S.,” says Way, due to its relatively strong banking sector and commitment to quantitative easing. “Things on the margin are getting stronger.”

Good potential worldwide

The AGF team is also bullish on Thailand and Turkey: the former due to its attractive GDP numbers and low debt-to-asset ratio, and the latter due to its 16% household debt-to-GDP ratio and rising population.

But they haven’t abandoned the BRICs. The team owns India Tobacco Company, which manufactures cigarettes. The majority of the population currently chews tobacco or smokes unfiltered “beedis,” and the government wants people to switch to cigarettes for health reasons.

Read: CPP urged to dump tobacco stocks

As a result, the company will see rising sales—in sharp contrast to developed nations, where smokers are quitting en masse. Couple that with ITC’s low operating costs, established distribution network, and pricing power, and you’ve got a good investment.

The team stresses its process is based on security selection first, with country and sector allocation secondary. But the global equity funds maintain caps of 6% for any one stock and 20% for any one country.

Melissa Shin

Melissa is the editorial director of Advisor.ca and leads Newcom Media Inc.’s group of financial publications. She has been with the team since 2011 and been recognized by PMAC and CFA Society Toronto for her reporting. Reach her at mshin@newcom.ca. You may also call or text 416-847-8038 to provide a confidential tip.