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Argentina is a Coiled Spring, Just Waiting for Kirchner to Leave

Grant’s Interest Rate Observer penned a great piece on the CFA Institute’s blog: Exit of Argentina’s President Offers Value Opportunity.

Here is an excerpt:

Like Russia, Argentina is so bad that it almost can’t get worse. Notice: almost. In human affairs, there’s always room for deterioration. The speculator in Argentine debt and equities may possibly suffer a permanent loss of capital. However, we judge that — again, as with Russia — valuations favor the optimist. Grant’s is bullish on the Country that Ruined Itself.

In a sense, Cristina Fernández de Kirchner, the disastrous two-term Argentine president, stands to do the value-seeking investor not one good turn, but two. In misgoverning, she’s wrecked the economy. By stepping down, she’ll improve it. Her policies have destroyed asset values. Her leaving will crystallize the opportunity to participate in the recovery of those values.

When Vladimir Putin may choose to become the ex-czar of Russia is anybody’s guess. When Fernández leaves office is already on the calendar. Her constitutionally mandated departure corresponds to the next presidential election in October 2015. Bloomberg recently quoted an Argentine asset manager, Claudio Porcel, to the effect that her successor, whoever he or she might turn out to be, will be a person to be envied: “The next president will regain market access and be able to raise as much as $60 billion in sovereign, provincial, and corporate debt. I can’t imagine a better job.

It can’t be said that the prospects for post-Fernández relief are entirely undiscounted. Since the run-up to the 2013 election in which the incumbent Peronist party suffered its mid-term shellacking, the 13-company Argentine Merval Index has returned 75% in dollar terms, according to Bloomberg. Nor is there much suspense about who the next president might be. Daniel Scioli, governor of Buenos Aires province; Sergio Massa, the former head of Fernández’s cabinet; and Mauricio Macri, mayor of the city of Buenos Aires, are the three acknowledged front-runners. Whatever else their differences, the contenders seem to agree that capital controls must be lifted, real rates of interest restored, and a Paul Singer settlement effected.

And — and — Argentina watchers concur, it would be nice if the government stepped aside long enough to permit development of the country’s immense Vaca Muerta shale oil and gas formation, one of the world’s richest energy deposits. Discovered by YPF in 2011, Vaca Muerta will cost between $140 billion to $200 billion to develop, according to figures cited by the Economist; just $3.7 billion has been ticketed to date (for comparison, the country is expected to spend up to $13 billion this year on foreign oil). “Argentina’s biggest problem is the lack of dollars,” an Argentine corporate executive — he asks to go nameless, as “it’s not good to be quoted in Argentina” — tells Grant. Foreign exchange reserves of the Argentine central bank stood at $52.6 billion as recently as 2011; they have subsequently dwindled to $28.8 billion.


For a case study in what ails Fernández’s Argentina — and for a hopeful glimpse at what might improve upon the incumbent’s long-awaited departure — we present the country’s No. 1 natural-gas delivery company, Transportadora de Gas del Sur SA (TGS); $440 million is the market cap.

There are three business segments: distribution and production of natural gas liquid; natural gas transport; and midstream services. Relatively thriving is the first-named, natural gas liquids unit. Demand is strong and volumes are growing; in the first half of 2014, they jumped by 10.6%. The business is unregulated and revenues are denominated in dollars.

A very different story is the transportation division. Tariffs are regulated — until recently, there had not been an increase since 1999. What with inflation and devaluation, the transportation unit takes in 75% less in dollar terms than it did in 2001. In that year, the parent earned $108.5 million in net income. In the 12 months ended June 30, it netted just $7.8 million.

As to valuation, TGS is quoted at a ratio of enterprise value to EBITDA of just under five times (enterprise value being defined as equity market cap plus debt minus cash). Observes Thompson, “The valuation may seem somewhat cheap when compared to other natural gas transportation/distribution companies in the region — they’re trading at six times enterprise value to EBITDA. However, when factoring in the potential profitability recovery that TGS could have, the valuation is extremely attractive and the investment proposition is very asymmetric.”


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Don’t Let Macro Worries Scare You Out of MTN Group

As we jump into the final quarter of 2014, emerging markets are looking much the way they did at the beginning of the year.  The popular iShares MSCI Emerging Markets ETF (EEM) started the year with a quick 11% drop on, among other things, fears of slowing growth in emerging markets, rising interest rates in the United States and geopolitical concerns across the globe.  And as I write this, EEM is in the midst of a brutal month-long correction based on—you guessed it—fears of slowing growing in emerging markets, rising interest rates in the United States and geopolitical risks across the globe.

It’s easy to forget that from February low to the first week of September, EEM enjoyed a fantastic 24% rally.

Looking at one of my favorite growth markets—South Africa—we see the same story played out.  The iShares MSCI South Africa ETF (EZA) started the year with a 14% decline only to then rally by a good 31%.  But since topping in early September, EZA has quickly dropped 12%.

Trying to call a bottom in any market, let alone volatile emerging markets is a fool’s errand as it depends on investor emotions.  I cannot say when investor sentiment will turn.  But I can say this.  Emerging markets are broadly underowned and inexpensive both based on their own historical valuations and compared to developed markets.  And many emerging markets—South Africa included—remain below their pre-crisis highs, at least in dollar terms.  EZA, for example, has traded sideways since 2010.

Will emerging markets rally in the fourth quarter?  Maybe, maybe not.  Only time will tell.  But on balance, the right conditions are in place for a rally. The stocks are cheap, sentiment is negative, and the interest rate environment should continue to be benign for at least another six months and probably longer.

MTN Group (MTNOY), my pick in InvestorPlace’s Best Stocks of 2014, has gotten dragged down by rotten sentiment towards emerging markets.  MTNOY stock is down about 14% from its September highs due entirely to perceived macro risks; the company has made no announcements over the past month.  At time of writing, we’re still up about 6% for the year, including MTNOY’s impressive 4.6% dividend.

MTNOY’s latest results, for the six months ended June 30, were positive across the board.  MTNOY’s subscriber base increased 3.5% to 215 million users, and overall group revenues rose 4.1% in constant currency terms.   Data revenues rose by a whopping 33.1% in constant currency terms, and profit margins widened; EBITDA margins rose 3.5% to 46.3%.

Revenue shrank slightly in South Africa due to brutal competition in that market.  But MTNOY enjoyed organic, constant-currency growth of 8% in Nigeria, its most important market, and 13.4% on average across its other major African and Middle Eastern markets.

MTNOY is a stock that I believe is uniquely positioned to benefit from the continued rise of Africa’s emerging consumer class. The most critical possession of the new middle class is not the automobile, as it might have been in previous generations, but the mobile phone.  And as the dominant African mobile provider, MTNOY is in prime position to benefit from a long cycle of service upgrades as African consumers switch from prepaid to post-paid monthly plans and from basic plans to data-intensive plans.

After the correction of the past month, MTNOY is on sale again. If you don’t already own shares, this is a good time to buy.  When sentiment turns on emerging markets in general and South Africa in particular, MTNOY should enjoy a nice “double whammy” of a rising stock in South African rand terms and a rise in the value of the rand itself.  For U.S. dollar investors, a return of 50%-100% over the next 12-18 months would seem very reasonable.

Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. 

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Where To Be Invested in the Fourth Quarter: Emerging Markets

This is not a fun time to be invested outside of U.S. borders.  Concerns over Fed monetary tightening–and thus dollar strengthening–have sapped investor enthusiasm for overseas markets and particularly emerging markets. But it is precisely now, when valuations are cheap and investor sentiment so one-sidedly bearish, that you should be allocating at least a portion of your portfolio internationally.

Let’s start with valuations.  I like to look at metrics like the cyclically adjusted price/earnings ratio (“CAPE”), a concept first popularized by the legendary Benjamin Graham—Warren Buffett’s mentor—and more recently by Yale economist and best-selling author Robert Shiller. The CAPE is a fantastic way to get a broad view of how a market is priced. Like all metrics, it is subject to interpretation, but I can think of no better “quick and dirty” way to judge a market’s relative value.

Meb Faber—the portfolio manager of one of my favorite ETFs, the Cambria Global Value ETF (GVAL)—does a fantastic job of compiling CAPE data from around the world. Well, Faber is at it again. In a recent research note, Faber acknowledged that CAPE has its detractors. As I myself have noted CAPE’s usefulness as an indicator can be affected by macroeconomic factors such as bond yields. And others have noted that using historical earnings is problematic due to changes in accounting standards over the years.

Faber published a rebuttal that compares the CAPE to similar 10-year metrics for book value (CAPB), dividends (CAPD) and cash flows (CAPCF). And guess what? The results don’t look all that different. The countries that look cheap by CAPE standards generally look pretty cheap by the other metrics as well. The following chart ranks the countries of the world by the average of the four metrics.

Czech Republic89387
New Zealand222251416
South Korea2313421724
Hong Kong2619293728
South Africa3538333936

A couple broad points jump off the page pretty quickly.  To start, American stocks are pricey, while most major European and emerging markets are relatively—or at least comparatively—cheap.  Of the world markets tracked, only the Philippines, Indonesia and Denmark are more expensively priced that the U.S. markets. Secondly, single metrics can be deceptive.  For example, if you used the cyclically-adjusted price/dividend ratio for Russia, you would see a market that was not particularly cheap.  But in looking at earnings, cash flows and book values, you see one of the cheapest markets in the world.  So, it pays to look at multiple metrics when assessing a market’s valuation.

Now, let’s turn to the subject of the U.S. dollar.  Part of the skittishness towards non-U.S. assets of late is fear that Fed tightening will mean a much stronger dollar.  But is this a reasonable fear?  U.S. interest rates are still among the lowest in the world, and even by the Fed’s most aggressive estimates, short-term rates will only rise over the course of multiple years.  By the end of 2017, the Fed’s policy-setting committee expects the fed funds rate to be 3.75%.  That’s three years from now, and it assumes that the economy continues to recovery without any major hiccups.  Meanwhile, the dollar is already fairly expensive.  Using the Economist’s Big Mac Index as a back-of-the-envelope gauge, Brazil is the only investable emerging marekt with a currency that can be considered “overvalued” relative to the dollar, and even here it is significantly less overvalued than in recent years.   Among developed markets, the UK and Eurozone are roughly fairly valued relative to the dollar.  Loose monetary policy from the ECB could send the euro lower, of course, but we’re starting at a reasonably-priced base.

How should we use this information to invest in the fourth quarter?  I am by no means bearish on U.S. stocks, and I don’t necessarily expect a major correction in the next few months.  But I do believe that U.S. stocks are priced to deliver disappointing returns going forward.  Meanwhile, there are real values to be had elsewhere in the world, particularly in countries that have recently emerged from financial or political crisis.

If you want a nice “one stop shop” for underpriced foreign markets, I recommend Faber’s GVAL.  It’s largest country weightings are a “who’s who” list of the cheapest markets in the world; Brazil, Spain, Austria, Italy, Ireland, Israel and Russia all have 10%-11% weightings.

If you want to choose individual markets, I am most bullish on Spain, Brazil and Russia.  The easiest ways to get access to these markets are via the iShares MSCI Spain ETF (EWP), the iShares MSCI Brazil ETF (EWZ) and the Market Vectors Russia ETF (RSX).

Brazil is in the midst of a contentious presidential election and Russia…well, Russia is Russia.  I expect to see some fairly wild price swings in these two markets in particular.  But I also consider both priced to deliver fantastic returns going forward for investors with the patience and intestinal fortitude to ride out the volatility.

This article first appeared on InvestorPlace.

Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. 

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Brazilian Stocks: The Bull Market is Just Starting

Russia has been stealing most of the emerging market headlines over the past six months and particularly this week, as Russia and Ukraine appear to have reached a ceasefire deal.  I recommended the Market Vectors Russia ETF (RSX) in July following the post-MH17 selloff, and I would reiterate that recommendation today.  After Greek stocks, Russian stocks are the cheapest in the world, trading at a CAPE of just 6. At prices like these, a value investor can afford to be patient.

But while Russia has been stealing the headlines of late, Brazil has been quietly enjoying a monster rally.  After bottoming in early February, the iShares MSCI Brazil ETF (EWZ) has risen an almost astonishing 40%.

After a run like that, it’s fair to ask: Have we already seen the big move, and are we late to the party?


Let’s put it in context.  Brazilian stocks have arguably been in a bear market since 2008.  Brazil, along with most of the rest of the world, enjoyed a fantastic rally in 2009.  From late 2008 to late 2009, EWZ returned about 170%.  But EWZ never regained its old 2008 highs, and it has spent most of the past four years drifting lower.  Even after the 40% run since February of this year, EWZ would have to nearly double just to see its old 2008 high.  (Currency movements have also played a role here; the Brazilian real has gone from being massively overvalued in 2010 to only modestly overvalued today, using the Economist’s Big Mac index as a rough guide.)

Brazilian stocks are also quite cheap by the inflated standards of today’s markets.  Brazilian stocks trade at a 10-year CAPE of just 10.

Furthermore, there is a growing consensus that, whoever wins the coming presidential election, Brazil will be adopting a more market-friendly policy regime.

Action to take: Buy EWZ and plan to hold for 12-24 months and possibly longer for returns of 100% or more.  Use a 25% trailing stop.

What could go wrong?

The Fed.  Frankly, no one really knows what will happen when the Fed eventually tightens its monetary policy.  The so-called “taper tantrum” sent Brazilian stocks sharply lower last year, as investors feared that the resulting loss of liquidity would pull capital out of Brazil and other emerging markets heavily dependent on foreign inflows.  But as tapering has progressed over the past year, the Brazilian market appears to be adjusting just fine.  Could a surprise rate hike by the Fed rattle investor confidence in emerging markets in general and Brazil in particular?  Yes.  But given that the ECB and Bank of Japan are actually getting more accommodative, I suspect that any aggressive Fed moves will be neutralized.

Charles Lewis Sizemore, CFA, is the editor of Macro Trend Investor and chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. 

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Africa Is the New China

Is Africa the “next China?” Jeff Reeves and I discuss:

Africa is the most promising investment destination of the next 20 years. And it won’t be foreign development aid or Western generosity that makes the continent boom, but rather the doggedness and ingenuity of its own people. As an investor, you want to be part of this megatrend by owning shares of some of Africa’s world-class companies.

I’ve made no secret of the fact that I’m a major Africa bull over the long term, and I’m serious when I say that “Africa is the new China.” With Chinese labor costs rising and with India a chronic dysfunctional mess, the African continent is the only large geographic bloc with the potential for “Chinese-like” growth in the decades ahead. It’s the last major investment frontier.

African growth is real. Per-capita GDP has more than doubled in the past decade. And according to Deloitte, 7 of the 10 fastest-growing countries in the world are in Africa. The Economist noted last year that “Lion Economies” such as Ghana and Rwanda are reminiscent of Asian “Tiger Economies” South Korea and Taiwan at an earlier stage of development.

Importantly for my investment thesis, Africa is developing a robust middle class for the first time in its history. According to estimates by the African Development Bank and the World Bank, Africa’s middle class is already well over 300 million people, or about a third of the population. It’s a block of consumers comparable in size to the middle classes of China and India. More conservative estimates put the number closer to 120 million people, but we don’t need to split hairs. Whichever estimate you use, we’re talking about a lot of consumers.

Of course, not all African consumers spend their days sipping lattes and playing on iPads. Africa is a frontier market in the truest sense of the word; much of the continent is at a very low level of development. But the companies investing there today are the ones that will deliver a massive payoff for their investors down the road.

In his history of the world Why the West Rules–For Now, Ian Morris writes about the “advantage of backwardness,” and the logic applies to Africa today. When you are starting at zero — and let’s face it, much of sub-Saharan Africa is about as close to zero as you can get — you have little in the way of sunk costs and legacy technology to deal with. You can leapfrog existing technology and embrace the new. Why would you invest billions of dollars stringing phone lines across your country when you can skip that step altogether and just build cheaper cell towers?

Looking at Africa today, you see the same pioneering spirit that defied all odds to settle the American West in the late 1800s. Consider the story of Liquid Telecom, a phone and internet infrastructure company based in southern Africa. Liquid has done something that no Western company would have the audacity to do: string fiber-optic cable from South Africa, through Botswana and Zimbabwe, and across the Zambezi river into Zambia, a landlocked country deep in Africa’s interior. All work had to be completed by day — using work lights attracts wild animals, you see — and a section of cable was dug up by elephants and had to be reburied. (These are not problems faced by Verizon (VZ) or AT&T (T), to say the least.)

Liquid, unfortunately, is not a publically traded company. But my favorite play on the rise of Africa most certainly is: South African mobile phone operator MTN Group (MTNOY).

MTN Group can be thought of as Africa’s AT&T or Verizon Wireless. It is headquartered in South Africa, but it has more than 200 million customers spanning 22 countries across Africa and the Middle East. And roughly a quarter of its subscribers are from Nigeria, Africa’s largest economy — and one of its fastest growing.

Why invest in African mobile phones? Let me count the reasons.

The mobile phone is the single most important possession of the emerging global middle class. We may think of our phones as primarily a source of entertainment. But in much of the developing world, a mobile phone is a vital lifeline to the connected world, and even an important medium for money transfers. Africa will have its booms and busts along the way, but I do not see demand for mobile services abating anytime in the foreseeable future.

Looking at the fundamentals, there is a lot to like about MTN Group stock. Revenues and earnings are up by more than a third since 2008, a period in which growth has been hard to come by in most markets. MTNOY trades at a reasonable price/earnings ratio around 16 and pays a respectable, growing dividend currently yielding 3.8%. In the past five years, it has grown its dividend by about 40%. (Fair warning: Exchange rates can skew ADR payouts.)

Currency fluctuations are a problem, and weakness in the South African rand have been a major drag on the returns of U.S. investors. But here too, I expect to see improvement. The rand is one of the cheapest currencies in the world, according to the Big Mac Index. U.S. investors should get a nice one-two punch in the next year: a rising stock price in South Africa combined with a rising currency value should make the U.S.-traded ADR shares a solid performer.

This article first appeared on InvestorPlace.

Charles Lewis Sizemore, CFA, is the editor of Macro Trend Investor and chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. 

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