(Bloomberg) -- A recent flurry of judicial and economic rule changes has served as a reminder of just how unpredictable operating in Latin America can be, denting the region’s appeal for foreign investors already weary after years of sub-par returns.
Mexico’s currency has gone from best to worst in the world amid a sweeping overhaul of the country’s judicial system critics say risks eroding its democracy; In Brazil, the ban of Elon Musk’s X sparked backlash from names including veteran Mark Mobius, who said the country “must tread carefully” to ensure it doesn’t stifle offshore investment; In Chile, plans for a legislative change that are roiling the renewable energy sector could end up calling the country’s whole regulatory framework into question.
Emerging market investors are no strangers to changing rules of the game — Dilma Rousseff’s decision to force Brazil utilities to cut rates, Mexico’s cancellation of an airport mid-way through construction and Argentina’s seizure of oil company YPF SA are just three prominent examples. High-profile, controversial legislative and legal decisions are also nothing new — even in the developed world, recent rulings of the US Supreme Court have been called into question for being too politicized.
But given Latin America’s history of political volatility and the plethora of risks ranging from fiscal deterioration to economic-policy concerns, it threatens to give global investors yet another reason to look for opportunities elsewhere.
Such events “can have an outsized impact on returns, be it nationalization or efforts to extend presidential limits or the make-up of courts,” said Carmen Altenkirch, an analyst at Aviva Investors in London. “Investors will be paying very close attention to the next country at risk.”
While it’s hard to pinpoint the exact impact the legal spats have caused — Mexico’s peso has also been rattled by the unwinding of carry trades, while Brazil’s real has tumbled time and again on government spending concerns — it’s another dent in markets that have continuously grown out of favor for foreign investors, tired of the region’s volatility and lackluster returns.
Four of the five worst performing currencies in emerging markets this year are in Latin America. Stock markets in Mexico and Brazil are lagging most major peers in dollar terms, and have seen a dearth of new listings for at least the past three years. The region’s weighting in MSCI global equity benchmarks has dwindled to a fraction of what it was two decades ago.
Idled mine
Perhaps one of the most stark examples of legal uncertainty plaguing the region of late comes from Panama, where protests caused the government to idle a $10 billion copper mine last year.
The mine, which makes up about 5% of Panama’s gross domestic product and is owned by Canadian mining company First Quantum Minerals Ltd., faced backlash from critics saying the operating contract undermined the country’s national sovereignty over its mineral rights. First Quantum is seeking compensation from the government amid a wider arbitration process.
The latest blowup came from Mexico. After fueling what seemed to be an unstoppable currency rally, traders rushed for the exits after a June election that gave the Morena party a sweeping legislative majority to push through reforms.
The main concern was an overhaul of the nation’s judiciary, replacing all judges — including at the Supreme Court — with elected officials. Critics say the change, which cleared both houses of Congress within days, could end up eroding checks on power and undermining private companies against a nationalistic government.
“Mexico finally did it — they blew it all up,” Macquarie strategists Thierry Wizman and Gareth Berry said in a note Wednesday. “We’re worried about the prospect for a drop in FDI, but also of a failure to renew the USMCA in its next review. We’re also worried about the societal divisions this can cause or expose. Much of the Mexican peso’s losses will be permanent.”
The peso has slumped 13% versus the dollar since the June election, the worst currency in emerging markets in the span. It’s close to erasing all the gains made since Andres Manuel Lopez Obrador took office in 2018, an advance that had earned it the moniker of “super peso.”
“That’s sort of at the top of the list of what matters,” Ted Mann, a senior emerging-markets analyst at Ariel Investments in New York, said of Mexico’s judicial reform. “It makes sense to put a higher risk premium on Mexican assets because of the risk that this is ultimately the beginning of institutional decay and consolidation of power that will ultimately worsen the institutional landscape for foreign investors.”
Investors are also looking to Chile, where President Gabriel Boric’s administration is seeking to change a pricing mechanism for small electricity generators that’s supposed to be in place for another decade. The move, which comes as the country seeks funds for everything from hospitals to its police force, risks an industry that has attracted billions of dollars of investment in mainly solar power.
The proposed changes could pave the way for similar measures in other industries, S&P Global Ratings said in a report last month, adding that it “would most likely change our perception of the regulatory framework in Chile.”
X ban
In Brazil, the judiciary branch, no stranger to the limelight, came back into focus amid a very public spat between one of the justices and Musk. The conflict, which shut down X in the country, put Brazil at the center of a global fight over the regulation of free speech on the internet.
While the X block is more noise than market driver — the path of the country’s fiscal accounts and interest rates continue to matter more — it is another negative sign for investors.
“Governments may argue that such bans are necessary to combat misinformation, protect national security, or safeguard user data — all valid reasons,” Mobius wrote on his website. But “an outright ban raises significant questions about its impact on businesses, investor confidence, and the global image of these countries.”
“Unfortunately, until we reestablish this trust and institutional stability, Latin America will, by definition, be a more tactical region from the point of view of capital allocation,” Eduardo Figueiredo, a portfolio manager for LatAm equities at abrdn, said in an interview.
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