In the Face of US Trouble, LatAm Bonds Have Been Outstanding

This post picks up on some of the issues mentioned by Otaviano Canuto and Tom Trebat in their recent posts.

Remember back in the olden days when the US sneezed and LatAm caught a cold? When any sign of trouble in the USA was met by repatriation of risk capital and the immediate beating to a pulp of emerging market bonds? Back in those olden days our region would be worse hit by any US problems than the USA itself.

Well take a look at these charts. Here we see the yield performance of the US T-5 and T10 treasuries in the period starting August 2007.


Here we see the EMBI+ spreads for LatAm in the same period.


The plain fact is that LatAm bonds have outperformed US treasuries in the period since the US housing problems first made financial headlines in August 2007. Even if we ignore the more dramatic US 5 year bond yield evolution and concentrate on the benchmark US T-10 bond, US yields have dropped by a tad over 1% in the period (which translates to 100 basis points on the EMBI+ scale).

As for the Latam EMBI+ chart, we have illustrated the LatAm spread plus three of the more ‘serious’ countries in the LatAm bonds market (excluding the riskier Argentine, Venezuelan and Ecuador bonds). We see that in the same period spreads have indeed climbed, but by an average of 80 basis points.

This certainly suggests that the market has ignored its own past history and has preferred LatAm bonds to US bonds since the US subprime/CDO/name-it-what-you-will debacle began. We might even go so far as to reflect the so-called “flight to quality” has reversed course, and the flow of net immigration from the USA to Brazil (noted in Tom Trebat’s recent post) is being matched by the flow of bonds capital between North and South America.

Why that may be so is another issue, but we would point to growth in Latin America being fuelled by the price rises in commodities, both hard and soft. Whether the region has benefited from this phenomenon via good luck, good planning or a combination of both is  outside the scope of this note. It has been debated, however, in numerous previous posts at RGE by people brighter than myself. However, the market for these commodities is no longer US dependent. Asia is the motor for commodities demand, and the US has for years been relegated in its importance in world market prices for copper, soybeans and all their friends. Taking copper as our barometer, according to a recent Goldman Sachs report US copper consumption has dropped from around 2.2MT in 2005 to 2.0MT in 2007. But despite this decrease in demand in the world’s largest economy, copper prices have enjoyed robust growth as in the same period China’s consumption has risen from 3.8MT to 4.7MT per annum. The recent 20% drop in copper prices might give bears a reason to come out of their caves, but a longer term picture helps to subtract market speculation and identify the underlying real price increase.


And although this is not the place for a full analysis of the copper market, for those who believe this boom will be short-lived please consider these little anecdotal facts:

• A typical family car contains around 50lbs of copper (a hybrid will need 100lbs).

• The USA, with a population of 300 million, owns 798 cars for every 1000 citizens.

• China, with a population of nearly 1.3 billion, owns 10 cars for every 1000 citizens.

• India, with a population of just over 1 billion, owns 13 cars for every 1000 citizens.

Just raising the car-per-1000 ratio to 200 in India and China alone would require at least 10MT of copper. And this rather facile example does not take into account the copper needed for household wiring, plumbing, large scale infrastructure projects such as electricity generation/transfer and the rest of the shooting match. And that’s just copper! Copper in cars is a small example of just one commodity amongst many others (again, hard and soft) that have been, are and will be demanded in ever greater amounts by Chindia. Perhaps we should reflect on what happened to the Japanese economy in the 1960s to understand what is about to happen in China and India this century.

Times have indeed changed. The near and long term fate of LatAm will be decided by the growth (or lack of) in Asia, and not by LatAm’s direct relationship with the USA. Crux to the near-term problem will be whether a US downturn affects China in any significant measure, an issue that this LatAm analyst is not qualified to tackle. But whatever may come, the direct influence of the US economy on LatAm is waning. The bonds market is the canary in the coalmine.

4 Responses to "In the Face of US Trouble, LatAm Bonds Have Been Outstanding"

  1. Alejandro   December 10, 2007 at 1:08 pm

    Mark, I think your analysis makes sense if you just focus on the supply side of the story. You argue that commodities are driven basically by asian demand. However, that demand wouldn’t be there in the first place if it wasn’t for the US growth figures. Do you think that Asia is going to continue pushing commodities prices the way they have been doing if there’s a demand shock coming from a US hard landing? I think the US still matters a lot in that regard. Do you think that China would have almost a 50% Investment/GDP when the US goes into recession?

  2. mark turner   December 10, 2007 at 2:04 pm

    alejandro,as mentioned I’m not hot on the Asia-US side of the story. You’d do better to ask Roubini or Setser; they’ve forgotten more than i know about the subject.

  3. Vitoria Saddi   December 10, 2007 at 2:12 pm

    Mark, Are you suggesting that Latin America may not be affected by the US slowdown in case it does not spread out to Asia? Don’t you think that a major reason for the fact that equities and bonds are more expensive in Latam than in the US is related to dollar weakeness? Likewise, when the CDOs prices are indeed disclosed don’t you think there will be a Latam sell-off as a way to offset the Ibanks losses with these synthetics? While things are rosy as of now, do you see forecast a better world for Latam markets due to good policies in 2008, despite the new era of derivatives and synthetics?

  4. mark turner   December 10, 2007 at 2:47 pm

    Vitoria,As laid out, evidence from the bonds market action suggests LatAm is more insulated from US travails than many people realise. Equities might be more expensive in Brazil, Vitoria. But..a) will they get more expensive as the Real continues its revaluation (ie Brazil stocks are better bought now than later)?b) the Argentine Peso has lost value against the dollar. The Mexican Peso has stayed static. Plenty of value left there.The CDO issue is a tough one to answer as again it’s not my field. I plead cowardice and shamefully duck the question.