Imminent Political Risk For The Mexico ETF

Investors focusing on U.S. equities can draw the conclusion that, between the White House's tariff efforts and the November midterm elections, there is some political risk with domestic stocks.

Some ex-U.S. markets are rife with potential political risk, including that of the imminent variety. Consider Mexico. Latin America's second-largest economy behind Brazil holds national elections July 1, and it appears a socialist candidate will emerge victorious.

What Happened

As of June 25, the iShares MSCI Mexico ETF EWW was sporting a year-to-date loss of 6.45 percent. It's nothing to write home about, but EWW's 2018 performance is better than those of the MSCI Emerging Markets Index and the S&P Latin America 40 Index.

Some of EWW's slackened performance is attributable to the slumping peso and speculation that President Donald Trump might pull the U.S. out of the North American Free Trade Agreement. Conversely, markets seem at peace with the idea of left-wing candidate Andrés Manuel López Obrador winning the election, as EWW is up nearly 4 percent this month.

“Although Mexico’s economy is currently in a reasonably sound situation, uncertainty around the election and how AMLO and an eventual majority support in congress would govern, as well as the stalemate over the negotiations for the North America Free Trade Agreement, have weighed on Mexican equities and the peso,” said BlackRock.

Why It's Important

Price action confirms investors face risks with socialist governments in Latin America. Even if Venezuela, which is not represented by a U.S.-listed equity ETF, is ignored, there are other relevant comparisons.

For example, the iShares MSCI Brazil ETF EWZ, the largest ETF tracking stocks in left-leaning Brazil, is up just 4 percent over the past three years, barely outpacing the S&P Latin America 40 Index over that period. On the other hand, Chile is a right-leaning country. The iShares MSCI Chile ETF ECH is outpacing EWZ by a margin of almost 7-1 over the past 36 months while being significantly less volatile, according to ETF Replay data.

What's Next

Mexico's economy is on solid footing, but there are risks, including the NAFTA negotiations and the possibility of more rate interest rate hikes. Mexico's central bank has already done that twice this year.

“An AMLO victory could lead to an increase in public investment, which could be beneficial in the short term for growth (although not very positive on inflation),” according to BlackRock. “However, those benefits could be mitigated if interest rates go up on the back of fiscal deterioration as the government looks to fund its social program with debt issuance.”

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