BlackRock Latin American Investment Trust — High degree of confidence in the current portfolio

In this overview, Brinkmann focuses on Brazil, which is by far the largest economy in Latin America, and highlights important political developments. Luiz Inácio Lula da Silva won the November 2022 presidential election, and took office and formed a government in January 2023. He appointed Fernando Haddad, a former São Paulo mayor and member of the left-wing ruling Workers’ Party, as finance minister. Haddad was not well regarded in the market due to concerns that he would pursue loose fiscal policies; however, he has been working to decrease Brazil’s fiscal deficit.

BRLA’s managers maintain their positive view about the prospects for Brazil. With a base interest rate of 13.75% and inflation at 4.18%, the c 9.6% real interest rate looks very competitive compared with the rest of the world. However, in the short term, Brazil’s restrictive monetary policy has led to a sharp decline in economic activity. Domestic retailer Americanas had accounting issues and filed for bankruptcy protection in January 2023, which has negatively affected credit markets in Brazil and made it more difficult for companies to raise debt. The managers believe that the speed of the deterioration in the Brazilian economy will force the Brazilian central bank to lower interest rates by Q323 at the latest; so far, hawkish comments from the bank have kept overall interest rates high.

Brinkmann comments that there is uncertainty about Brazil’s fiscal position, the country had been operating under a spending ceiling that restricted economic activity. A new policy framework was released recently, which links expenditure to revenue growth and is aiming for a budget surplus, starting with a balanced budget in 2024. The manager says that Brazil’s fiscal outlook for 2024 to 2026 is better than expected; however, the lack of detail means the market remains sceptical, although better fiscal targets mean Brazil’s central bank is likely to reduce interest rates. Vecht suggests that there is ‘a disconnect between what will happen, and what is happening today, but lower interest rates are the direction of travel’.

The managers recently visited Brazil, Uruguay and Chile. BRLA has no exposure to Uruguay as there is no real stock market. However, Vecht explains that, interestingly, there is a growing technology hub in the country, with both listed (in the United States) and unlisted companies. He had last visited Santiago in Chile prior to the COVID-19 pandemic, at which time the political situation was very tense. Vecht comments that this tension has dissipated; the first challenge to change the Chilean constitution has failed and things are much calmer now. He adds that the risk of natural resource operations in Chile being nationalised has reduced.

Turning his attention to Mexico, Brinkmann reports that its economy remains stable; both the external and the fiscal accounts in Mexico are balanced, government spending has been prudent, and the central bank has been proactive in raising interest rates. The manager comments that things are in order in Mexico and the economy is doing fine, but this is already reflected in the equity market, which has performed relatively well. Vecht and Brinkmann have been assessing how the Mexican economy could be affected by a potential slowdown in the United States. They comment that further issues in the US banking sector could be problematic, but for now the Mexican economy is defensive and stable.

The Latin American market is relatively attractively valued compared with the rest of the world. Vecht considers that a potential re-rating of Latin American equities is dependent on what happens in Brazil, given its dominance in the region. He now has more confidence in the Brazilian political situation and firmly believes that interest rates in the country will come down.

Vecht highlights what he considers to be an important macroeconomic theme. He suggests that there are three global blocs: the West, the East and the neutral countries. The manager explains that capital is moving into the neutral areas, for example Latin America, which are happy to trade with both the West and the East. Vecht comments that China and Brazil are talking about trading in local currencies rather than the US dollar, which he considers to be an important development.

At the end of March 2023, BRLA’s top 10 positions made up 52.4% of the fund, which was a higher concentration versus 50.7% a year earlier; seven positions were common to both periods.

Over the 12 months to the end of March 2023, the largest changes in BRLA’s geographic weightings were Brazil (-2.8pp) and the sale of the fund’s Peruvian exposure (-2.8pp), and a higher weighting to Argentina (+1.7pp), along with a new allocation to Colombia (1.7pp). Compared with the benchmark, BRLA’s largest active weights were overweight positions in Argentina (+3.6pp), which is not represented in the index due to the country’s continued capital controls and Brazil (+3.0pp) with an underweight exposure to Mexico (-3.8pp) and a zero weighting to Peru (-3.2pp).

BRLA’s sector changes over the 12 months to the end of March 2023 are more notable than its geographic changes. There were higher weightings in industrials (+6.4pp) and consumer staples (+2.3pp), and lower exposures to communication services (-5.2pp), materials (-3.2pp) and healthcare (-2.3pp). There are now no utility companies in the fund. Looking at the trust’s active positioning, the largest overweight exposures were industrials (+5.5pp) and real estate (+3.9pp), while the largest underweight allocations were utilities (-6.1pp), materials (-4.4pp) and communication services (-4.2pp).

Vecht highlights BRLA’s extremely low fund turnover; he says this is due to the managers’ very high conviction and comfort in the structure of the portfolio. He adds that Q123 probably saw the lowest ever turnover in the fund.

The managers have increased BRLA’s Brazilian real assets exposure including adding to rail logistics company Rumo, which is benefiting from strong volumes such as in soya beans, due to high yields, and toll road operator CCR, as Brazilian traffic volumes are generally stable. Vecht explains that these two companies are sensitive to interest rates, so if rates decline their valuations should increase. The manager also highlights that Brazilian high-income consumers are well positioned as they are less affected by higher interest rates. BRLA has a holding in Arezzo Industria e Comercio, a high-end clothing retailer that is reaping the benefits of good brand acquisitions.

Focusing on one of BRLA’s top 10 holdings, Vecht says that stock exchange B3 has a high-quality franchise. However, higher interest rates mean more fixed income volumes rather than equity transactions, which have been detrimental to B3’s business. The manager believes that the company’s share price is discounted, and he expects its earnings to inflect as interest rates decline.

Vecht emphasises that his carefully considered view is unchanged. He believes that the opportunity set available in BRLA’s portfolio is greater than that from potential new holdings. The manager considers that within the whole emerging market region, Brazil offers a standout opportunity; hence, the trust’s overweight position, which is replicated across all of BlackRock’s emerging market funds. He prefers domestic rather than international exposure, suggesting that there is ‘real juice and excitement’ about BRLA’s domestic businesses, including those highlighted above.

Vecht highlights that over the last few months, BRLA’s performance has been negatively affected by the fund’s Brazilian domestic exposure as these stocks have de-rated in the absence of good news, adding that healthcare, retail and financial stocks have all come under pressure. The manager comments that since the November 2022 Brazilian presidential election, exporters have outperformed. He does not consider that a bias towards these companies is the correct way to position BRLA’s portfolio. Vecht is confident about the structure of the fund and is anticipating an improvement in the trust’s absolute and relative performance.

In recent months, BRLA’s performance has benefited from its Mexican holdings, including retailer and bottler FEMSA, which has undertaken a strategic review and is reducing its holding in Heineken; Corporación Inmobiliaria Vesta, which is a Mexican real estate company that is benefiting from nearshoring (manufacturing companies moving their operations closer to home); and airport operator Grupo Aeroportuario del Pacifico, which has delivered strong results helped by robust tourist volumes.