In the wake of the disruptions to key supply chains caused by the coronavirus pandemic, the Russian invasion of Ukraine and increasingly determined calls for economic decoupling from China, the EU and the US are now looking to Latin America as a key economic partner. These efforts are bolstered by the recent change of government in Brazil: with the election of left-wing former president Luiz Inacio Lula da Silva in October, the policy of international isolation pursued by his predecessor Jair Bolsonaro is likely at an end.
Lula, who has been in office since January, plans to end Brazil’s isolation and is counting on increased cooperation, both within and outside Latin America. This means that the largest economy in the region returns to the geopolitical stage.
Brazil’s change of course also increases the chances for an early conclusion of the EU’s long-planned trade agreement with the Latin American Mercosur free trade zone. The Mercosur trade bloc includes Brazil, Argentina, Uruguay and Paraguay as member states, with seven further countries as associate members.
The EU has been negotiating a trade agreement with the Mercosur countries since 1999. Such an agreement would create a common market of more than 700 million people, covering nearly 20 percent of the world economy and 31 percent of global goods exports.
While a general fundamental agreement and a breakthrough were reached in 2019, the agreement’s conclusion failed due to unsolved political issues – particularly in regards to the protection of the Amazon rainforest. However, with the change of course in Brazil, but also in view of the Ukraine war and the growing concerns about dependence on China, the negotiations have gained new momentum.
EU Hopes for Early Agreement With Mercosur After Government Change in Brazil
German Chancellor Olaf Scholz kicked off his visit of Latin America around a month ago with an urgent call to get the stalled free trade agreement negotiations back on track. “The negotiations have gone on long enough,” Scholz said, mirroring the Brazilian president’s sentiments about reaching a quick conclusion to the free trade agreement.
The EU hopes to have the trade agreement signed by July. According to the AFP news agency, Commission Vice President Frans Timmermans stated this as the goal, referring to a joint summit planned for 17 and 18 July. Before that, however, political resistance in the EU and in Latin America must be cleared out of the way.
In Europe, environmental concerns still remain, as do protests from regional interest groups such as French farmers, who fear stronger competition and greater imports from South America. There have also been recent differences among the Mercosur member states. Argentina’s left-wing government wants to protect the domestic economy from international competition.
Brazil’s new president wants to play an active role in this matter. “We will work very hard with Argentina to conclude this agreement by the end of the first semester,” Lula said in a joint press conference with Scholz, having also recently signaled flexibility on the rainforest issue. In this matter, Germany pledged support for the South American country, announcing it will provide Brazil with EUR 200m for the reestablishment of institutions and projects for environmental and indigenous protection.
US Advocates Tighter Cooperation in North and South America
The United States have also recently placed greater emphasis on Latin America as an economic partner. In late January, in an online summit with representatives of 11 other countries, US Secretary of State Antony Blinken drummed up support for President Joe Biden’s plan to increase cooperation between North and South America. The US expect this to improve trade relations, but also to increase prosperity throughout the region and thus alleviate migration problems. At the same time, this initiative is also intended to put a stop to China’s growing influence in Latin America. Finally, both the US and the EU hope that improved Latin American relations will strengthen supply chains impaired since the coronavirus pandemic.
Latin America Plays Vital Role in Supply of Essential Metals for Future Technologies
Latin America is not only one of the world’s most important suppliers of many agricultural products such as coffee or soybeans, the region also plays a vital role in supplying many essential metals. Countries such as Chile and Peru are among the world’s largest producers of copper and silver, and the lithium deposits in the region are important for many future technologies. According to a report by the US Geological Survey (USGS), 56 per cent of the 89 million metric tons of lithium identified worldwide are found underground in the desert regions of Argentina, Bolivia, and Chile.
Lithium is considered the crude oil of the 21st century. The light metal is required for the manufacture of batteries for electric cars and is also found in cell phones and many other electronic devices. So far, China has been the main player in mining and processing lithium and other important metals in the region, but Europe and the US want to play a more active role going forward. The Lithium Triangle countries themselves also want to go beyond supplying lithium in the future and industrially utilise the metal locally – for example in the production of batteries for electric vehicles.
Is this the hour of the bonds after last year’s sell-off?
Having disappointed in recent years, hopes are high that Latin America also has something to offer investors. Now could be the time for bonds from the region. As the “Handelsblatt” reports, although 85 billion dollars flowed out of emerging market bonds worldwide last year – the strongest outflow ever – around 8-10 billion dollars have already come back since the beginning of December (Source: Handelsblatt, 6.2.2023). The recovery potential is correspondingly large.
The region has become more stable again. In the current issue of GEWINN, Péter Varga, fund manager for emerging markets corporate bonds, rates bonds from Mexico as “attractive”. The central bank there pursues a sensible monetary policy and fights inflation credibly. This is why the Mexican peso has held up best of all emerging market currencies against the strong US dollar. Many companies are thinking about moving their production facilities from China to Mexico (Source: GEWINN, March 2023 issue).
“Reforms foster growth.”
Péter Varga, Emerging Markets Corporate Fund Manager
Investing in emerging markets with ERSTE BOND EM CORPORATE
Launched by Erste Asset Management back in 2007, ERSTE BOND EM CORPORATE offers a broadly diversified investment opportunity in corporate bonds from emerging markets. The fund invests globally and enables investors to participate in the growth opportunities of these emerging markets, including securities from several Latin American countries such as Mexico, Brazil, Chile, Peru and Colombia. Currently, the bonds held in this fund have an average annual return of 6.7% (Source: Erste Asset Management, 8.3.2023).
However, one should be aware that emerging market bond prices can traditionally fluctuate more and there is a higher risk due to the medium to low credit rating of the companies. However, there are opportunities for attractive returns, especially if the region makes a comeback combined with falling yields and few defaults.
Advantages for the investor
- Chance of attractive returns from the most interesting emerging market corporate bonds
- Global diversification in emerging markets
- Foreign currencies are mostly hedged against the euro
- Risk diversification via a variety of bonds from a wide range of issuers
Risks to be considered
- Increased risk due to average and below average credit rating of participating companies.
- Emerging markets are traditionally subject to high volatility.
- Capital loss is possible.
- Risks that may be significant for the fund are in particular: credit and counterparty risk, liquidity risk, custody risk, derivative risk and operational risk. Comprehensive information on the risks of the fund can be found in the prospectus or the information for investors pursuant to § 21 AIFMG, section II, “Risk information”.
For a glossary of technical terms, please visit this link: Fund Glossary | Erste Asset Management
Prognoses are no reliable indicator for future performance.