Published: January 01, 2000
Latin America has experienced an abundance of investment from banks and multinationals expanding in the region over the last decade. One area that has left investors wanting more is stock exchanges, the key to any region’s economic success. Two initiatives – the Pacific Alliance and the integration of its member countries’ stock exchanges – are opening up some interesting opportunities for companies looking to invest in Latin America. However, a number of challenges must be overcome for both initiatives to reach their full potential. Not surprisingly, global banks will have an important role to play in driving development in the coming years.
Formed in June 2012, the Pacific Alliance is a new trade bloc which incorporates Chile, Colombia, Mexico and Peru, accounting for around 35% of Latin America’s GDP. Consequently, the Pacific Alliance is the ninth largest economy in the world, and may continue to grow as other countries join. With a combined population of 207 million, the countries of the Alliance grew at an average GDP rate of 5% in 2012 and share similar economic ratings and business environments.
The Pacific Alliance has the potential to be very important for the region in the coming years, particularly given that other countries have expressed interest in joining. In May 2013, Costa Rica received approval to join the Alliance as a full member. In addition to the member countries, there are a number of registered observer nations - some of which aspire to become full members. The observer nations currently include Panama, Uruguay, Canada, Spain, Australia, New Zealand, Japan, Guatemala, Honduras, El Salvador, France, Dominican Republic, Paraguay and Portugal. The United States and Canada have also requested to become observer nations.
The members of the Alliance share a common vision and goals, such as the existence of a free market and the free movement of goods, services, capital and people within the bloc. This is to be achieved while the member countries continue to maintain currency independence – in other words, there is no intention of putting in place a common currency. Another objective is to unite the member countries’ policies to allow them to compete more effectively with increasing capital flows and appreciating currencies in other markets such as Europe, the US and Japan.
Finally, another objective is to open up new trade opportunities both within the region and between the Alliance countries and other regions, particularly Asia. At present, levels of trade within the Alliance member countries are lower than in many other regions or trade blocs: in Europe, for example, internal trade represents 71% of all trade within the region, while the figure is 53% and 43% in Asia and North America respectively. In South, Central America and the Caribbean region, internal trade accounts for only 29% of all trade within the region.
To date, a significant amount of progress has been made in achieving the goals of the Alliance. The legal framework for the Alliance has been approved and sent to Congress for approval by each of the member countries. The need for visas has been eliminated within the four countries, and trade taxes are in the process of being eliminated, with 90% already removed and the remaining 10% pending review. The benefits of the new bloc have been widely promoted by these four governments.
The integration of the member countries’ stock exchanges had already been set in motion before the Pacific Alliance was born with the launch of MILA in 2011. While MILA is a private rather than a government-led initiative, the new exchange can be seen as the first step of the financial market integration within the bloc, incorporating the stock exchanges of Chile, Colombia and Peru. Since it signed the Pacific Alliance, Mexico’s intention to join MILA has been boosted, legal hurdles notwithstanding. Mexico’s anticipated inclusion within MILA is expected to be expedited by financial reforms which have recently been introduced by the country’s president, Enrique Peña Nieto.
The new exchange already has a market capitalisation of over USD 700,000 and has 544 listed companies, compared to 427 on Mexico’s exchange and 381 on Brazil’s exchange, Bovespa. If, as anticipated, Mexico joins in 2014, MILA would overtake Bovespa to become the largest exchange in the region. Mexico is the region’s second largest economy, and as such, the prospect of its inclusion in MILA has significantly boosted expectations about the success of this initiative.
There are many benefits to MILA. It brings together nations with stable economies and expanded growth revenues and investors to an attractive and diversified market. It also has great technology in place providing new opportunities in the investment industry for country participants. And, finally, it provides foreign and local investors with a wider range of opportunities.[[[PAGE]]]
The main challenge facing the Pacific Alliance is that of building up the internal trade flows within member countries as outlined above. The infrastructure needed to support the first step of the member countries’ financial integration – in other words, the integration of stock exchanges – also requires further development.
While MILA has the potential to benefit investors within the region and elsewhere, a number of factors have meant that the new stock market has not yet gained the momentum expected. Since its inception, MILA’s market capitalisation has grown by 21.3% which, although steady, falls somewhat short.
One obstacle to MILA’s growth is the diverse tax and regulatory policies held by the different countries in relation to capital gains and equity sales and purchases. Despite the integration, these implications may arise if, for example, an investor based in Chile wishes to purchase securities from Colombia.
Using the above example, another consideration for the company in Chile purchasing securities from Colombia is that the transaction will include foreign exchange transactions, and a different regulatory and tax frame that adds cost and complexity, with investors required to pay commissions to intermediaries for both sides of the transaction. The requirement currently puts MILA at a competitive disadvantage compared to other exchanges within the region. Another factor to be considered is the different settlement process, and timings in the different countries. There is as yet no harmonised and holistic policy covering these points. This issue is unlikely to be resolved in the short term, and as a result, global banks with competitive banking products have an important role to play in this market. Many investors are currently fulfilling their FX, custody and settlement and capital raising requirements at a local level with domestic banks – but a global bank may be in a much better position to offer this type of service and may do so more competitively. Global banks are very keen to build their overall product offerings within the region, so further opportunities are likely to arise.
If the issues around taxation, regulatory frames and currency exchange are resolved, the costs associated with MILA will be driven down and continued growth of the exchange should be expected. In the meantime, global banks are beginning to take on a much greater role by offering services such as custody, foreign exchange and settlement structures within the stock exchange or depository houses in these countries, often at a much better price and a higher level of service. They are able to do so by leveraging economies of scale and by drawing upon expertise previously gained in other regions and markets. Global banks also have the ability to provide tailored, international banking solutions into the market. As such, their role in supporting MILA’s growth is likely to become more critical over the next couple of years.
With numerous countries in Latin America and beyond already considering joining the Pacific Alliance, the membership of both the Alliance and MILA will continue to grow in the years ahead. As MILA evolves, it is likely that the opportunities which it offers will prompt more international investors to consider markets further afield than Brazil when looking to invest in Latin America. Brazil has also expressed an interest in joining MILA, which would, of course, give the new exchange another significant boost and an added dimension for investors.
Both the Pacific Alliance and MILA have the potential to affect the way in which international companies view the region. In addition to the opportunities which are being opened up by stock exchange integration, prospects are likely to arise in areas such as trade and commodities for the member countries. It is likely that international corporations will begin to look more seriously at the Alliance’s member countries when considering different types of investment, including commodities. As a result, the new bloc will be in a stronger position to compete with Asia – and indeed with markets such as the US and Canada — if these countries do not decide to join the Alliance in the coming years.
In the immediate future, one of the greatest challenges for the Pacific Alliance and MILA will be that of living up to market expectations. In order to achieve this, both will need to continue to expand through developments such as the integration of Mexico into MILA, as well as the possible accession of other countries to the Pacific Alliance. Such developments will build momentum for both initiatives and increase the opportunities for investors within the region and beyond.
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