ANDBANK RESEARCH Global Economics & Markets

Alex Fusté Chief Economist [email protected] +376 881 248

Working paper - 39 Bubbles in Mexico? February, 2013

Corporate Review

There are signs that the Mexican Economy is suffering from weaker demand from the US

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Economic Activity Indicator - Mexico

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0

0

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'98 '99 '00 '01 '02

'03 '04 '05 '06 '07

'08 '09 '10 '11 '12

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(MOV 3M , % 1YR) Economic Activity Indicator, Total, Sa, 2003=100, Index - Mexico INEGI

©FactSet Research Systems

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Corporate Review

Being the industrial production the most affected 64

Mex Industrial Production & US ISM Manuf Index 10

60 56

5

52 0

48 44

-5

40 -10 36 32

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(MOV 3M , % 1YR) IP, Total, Sa (Right) INEGI

©FactSet Research Systems

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Corporate Review

But, despite the slowdown seen in the economy during the second half of 2012 … markets have made a 23% rally in the period 240 220 200 180 160 140 120 100 80

Equity Market - Mexico

180 160 140 120 100

Q2-10

Q4-10

Q2-11

Q4-11

Q2-12

Q4-12

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(INDEX) MSCI Mexico - Total Return Index (Right) (INDEX) MSCI Mexico Large Cap - Total Return Index (Left) (INDEX) MSCI Mexico Mid Cap - Total Return Index (Left) (INDEX) MSCI Mexico Small Cap - Total Return Index (Left) MSCI

©FactSet Research System

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Corporate Review

… at the same time, the peso has appreciated considerably

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Exchange Rate - Mexico

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+14% 14

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Peso strenghtens vs USD

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2008

2009

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2012

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FX Rate - Spot Mid - Mexican Peso per US Dollar WM Reuters, Factset

©FactSet Research Systems

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Corporate Review

All this suggest that Mexican assets could have overheated (lower economic dynamics & higher asset prices) but … … There are two aspects by which market performance could be justified. The first one … is a

recently sudden upturn in US ISM indicators. One factor that could have been anticipated by market participants, who may have considered that recent improvement in US data will prove to be a key driver for the economic activity in Mexico … … suggesting that recent economic downturn was a short term nature one.

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Mex Industrial Production & US ISM Manuf Index 10

60 56

5

52 0

48 44

-5

40 -10 36 32

'98

'99

'00

'01

'02

'03

'04

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(MOV 3M , % 1YR) IP, Total, Sa (Right) Ism (Napm) Manufacturing, Purchasing Managers Index - United States (Left)

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Corporate Review

… there are still two aspects by which market performance could be justified.

The second one … is a rebound seen in agricultural output, that together with a resilient service sector, could prove to be a useful cushion for the slowdown in manufacturing activity.

Source: Capital Economics

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Corporate Review

However, this second factor (a rebound in agricultural output) can not be seen as a source of growth that could offset the lack of dynamism in the manufacturing activity

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Basically, because although agricultural output could grow at a double digit pace, it still represents a small portion of the Mexican Exports

Exports - Mexico - By product (Monthly)

30 25 20 15 10 5 0

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Exports, FOB, Absolute values, Total, bn USD - Mexico Exports, FOB, Absolute values, Manufacturing, bn USD - Mexico Exports, FOB, Absolute values, Oil, Crude Oil, bn USD - Mexico Exports, FOB, Absolute values, Agricultural, bn USD - Mexico Bank of Mexico

©FactSet Research Systems

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Corporate Review

Nevertheless, recent rally in Mexican Equities could have been due to a previous very cheap valuation, so that, despite the rally, the Mexican equity market would not show among the most expensive

But our valuation table shows how, according to several valuation criteria, Mexican equities are among the most expensive in the world … The hierarchy value of each ratio for each market results from comparing the current value of that ratio for a specific market against its own history and from a cross-comparison against the value in the other markets. The multiples use 12 month trailing EPS.

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Corporate Review

Conclusions

¾ By all the aforementioned, one could conclude that financial markets are overbought in Mexico (both equities and currency) ¾ So we recommend reduce exposure to these markets… ¾ … especially in equities (since our outlook for the currency is not for a depreciation vs the usd, but the potential appreciation should be now very limited)

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Corporate Review

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Legal Disclaimer

All the sections in this publication have been prepared by the team of analysts from the financial institution. The views expressed in this document are based on the assessment of public and private information. These reports contain evaluations of a technical and subjective nature on economic data and relevant social and political factors, from which the financial institution’s analysts have extracted, evaluated and summarized the information they believe to be the most objective, subsequently agreeing upon and drawing up reasonable opinions on the issues analysed herein. The opinions and estimates in this document are based on the market events and conditions that took place before the publication of this document, and therefore cannot be determining factors in the evaluation of future events that take place after its publication. The financial institution may hold views on financial instruments that differ completely or partially from the general market consensus. The market indices chosen have been selected following the exclusive criteria that the financial institution regards as most appropriate. The financial institution cannot in any way guarantee that the predictions or events given in this document will take place, and expressly reminds readers that any past performances mentioned do not in any circumstances imply future returns; that the investments analysed may not be suitable for all investors; that investments can fluctuate over time in terms of their share price and value; and that any changes that might occur to interest rates or currency exchange rates are other factors that may also make it unadvisable to follow the opinions expressed herein. This document cannot be regarded, under any circumstances, as an offer or proposal to buy the financial products or instruments that may have been mentioned, and all the information herein is for guidance purposes and should not be regarded as the only relevant factor when it comes to making a decision to proceed with a specific investment. This document does not, therefore, analyse any other determining factors for properly appraising the decision to make a specific investment, such as the risk profile of the investor, his/her knowledge, experience and financial situation, the duration or the higher or lower liquidity of the investment in question. Consequently, investors are responsible for seeking and obtaining the appropriate financial advice in order to assess the risks, costs and other characteristics of any investments they wish to make. The financial institution cannot accept any responsibility for the accuracy or suitability of the evaluations or estimates of the models used in the valuations in this document, or any possible errors or omissions that may have been made when preparing this document. The financial institution reserves the right to change the information in this document at any time, whether partially or in full.

Source: Capital Economics