Boots on the Ground: Mexico’s Burgeoning Economy Shines

During the week of November 6th, Patricia Gonzalez and Ola El-Shawarby from VanEck’s Emerging Markets Equity team traveled to Mexico for a conference and to meet with local companies.

The timing of our trip to Mexico was perfect, aligning with the country’s current upswing due to nearshoring. At the Merrill Lynch Mexico Conference, we gained insights from government officials, state governors, the Mexican banking association, and industrial real estate companies. There's noticeable acceleration in Mexico's economic activity, positively impacting various sectors like real estate, banking, consumer goods, and education. Our discussions with companies reinforced this upbeat outlook.

We returned feeling optimistic, particularly about holdings in our VanEck Emerging Markets Fund like Regional (2.5% weight in the Fund) and Qualitas (0.5% weight in the Fund). We also see promising prospects in consumer and real estate sectors. We believe Mexico is exceptionally well-placed to capitalize on geopolitical shifts, offering intriguing opportunities for investors like us.

Deputy Portfolio Manager Ola El-Shawarby and Senior Analyst Patricia Gonzalez in Mexico City, Mexico.

Nearshoring and Mexico’s Rise in Trade

Nearshoring, the practice of transferring a company's operations to nearby countries, is a pivotal strategy for Mexico, given its numerous benefits in terms of geography, economics, and trade. While Mexico has historically enjoyed a strong trade relationship with the U.S., in recent years, Mexico has grown to become the U.S.’s largest trading partner, bypassing both Canada and China.

Mexico is Now the United States’ Largest Trading Partner

Source: Financial Times analysis of US Census Bureau data. As of September 2023.

Here are some of the key benefits of nearshoring that are having an impact on Mexico’s economy. We have compiled these after attending the conference and from our own research.

• Economic growth and job creation: Nearshoring has directly led to increased economic growth for the Mexican economy, creating numerous employment opportunities. According to the Mexican Institute of Executive Finance, Mexico will create roughly 577,000 jobs in 2023, with the unemployment rate at 2.9%.
• Increased foreign investment: Mexico has seen tremendous growth in foreign direct investment (FDI). In March 2023, Tesla announced plans to build a factory in Nuevo Leon, with costs estimated at $5 billion. This is just one example of foreign companies investing in local operations in Mexico.
• Competitive labor market: With labor costs considerably lower than other export countries like China, Mexico’s labor market has become very attractive relatively speaking. According to speakers at the Merrill Lynch conference, China’s wages are now roughly twice as high as Mexico ($2.80 for Mexico and $6.00 for China). This has led to a positive feedback loop of more jobs, which then leads to a better-trained, increasingly-skilled workforce.
• Fiscal incentives and government support: To provide continued support for the near-shoring trend, the Mexican government has been proactively investing in the local economy. For example, the government announced it would spend more than $130 million on infrastructure to support the construction of the Tesla plant in Nuevo Leon.

In summary, nearshoring in Mexico is boosting its economy through increased job creation, substantial foreign investment like Tesla's $5 billion factory, a competitive labor market, and strong government support including significant infrastructure investments.

Mexico in the VanEck Emerging Markets Fund

The VanEck Emerging Markets Fund seeks to identify companies with sustainable, long-term growth potential at a fair price, using a thorough selection process that emphasizes active management and focuses on high-quality, well-governed businesses with clear business models, innovative practices, and minimal risk of disruption. In doing so, the Fund will often deviate from its benchmark (MSCI Emerging Markets IMI Index), and hold companies that reflect the future opportunities that exist in emerging markets countries.

With that in mind, the Fund is slightly overweight Mexico versus the benchmark (2.9% for the Fund vs. 2.6% for the Index). The two Mexico names held in the Fund are not held in the index, underscoring the bottom-up, active approach that the Fund employs.

Regional, S.A.B. (2.5% Fund weight vs 0% Index weight)

Regional is a bank based in Monterrey, Mexico, focusing primarily on financial services for small- and medium-sized enterprises (SMEs). It stands out for its significant presence in Northern Mexico, the hub of nearshoring activities. This strategic position allows Regional to capitalize on the opportunities arising from this trend. The bank is already benefiting from nearshoring, evident through its investments in commercial bankers and infrastructure enhancements.

Regional leads in SME lending in Northern Mexico, holding the largest market share in this segment. They anticipate double-digit loan growth, surpassing the sector average, buoyed by the positive business climate and economic activities tied to nearshoring. Expectations include continued double-digit earnings growth, stable net interest margins (NIM), and improved return on equity (ROE), supported by an advantageous funding mix and a growing retail presence. Their digital branch, Hey Bank, further strengthens their position as Mexico's first comprehensive digital bank with a substantial client base of 650,000.

Qualitas (0.5% Fund weight vs 0% index weight)

Qualitas is Mexico's largest car insurance provider, commanding a 32% market share. For the past 15 years, it has led the market, consistently driving value creation. The company's strong performance is attributed to its focus on cost control, high-quality service, and a decentralized model. It offers exposure to Mexico's underpenetrated insurance industry, where insurance premiums account for only 2.4% of the country's GDP.

Qualitas distinguishes itself by concentrating exclusively on auto insurance in Mexico and Latin America, a strategy that has established its strong competitive advantage. The management team's history of profitable growth has resulted in a surplus capital position, which is directed towards organic growth. The company's extensive distribution network in Mexico is another critical advantage. In 2023, Qualitas' performance exceeded expectations, benefiting from increased auto sales, lower costs, higher pricing, and favorable financial results. It is projected to achieve a combined ratio close to 90%, outperforming competitors due to its scale, distribution network, and integration. Qualitas is poised to maintain high profitability and premium growth, leveraging its dominance in a market with low penetration rates.

Exploring Mexico's Economic Opportunities

In this blog, we've taken a close look at Mexico's investment landscape, focusing on how the country is leveraging nearshoring and geopolitical changes to drive growth in several key sectors. Our insights from the Merrill Lynch Mexico Conference and our own research have highlighted important growth areas like the rise of nearshoring, growth in the financial sector, and the strengthening of consumer and real estate markets. The VanEck Emerging Markets Fund (GBFAX) offers a way for investors to tap into these exciting opportunities in Mexico, as part of a wider emerging markets portfolio. Our in-depth research and hands-on investment approach make the Fund a great choice for investors looking to access unique growth opportunities in emerging markets. Our recent visit to Mexico has reinforced our confidence in the country's growth story, making it an attractive option for investors ready to explore and benefit from these new trends.

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