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Believe It Or Not, Wall Street Increasingly Likes Argentina-IMF

Reboot
Kenneth Rapoza
JUNE 21, 2018

What is going on? The Argentine peso is basically falling apart and on the cusp of hitting 30 pesos
to the dollar. Most Argentinians convert it into dollars as fast as they can. The International
Monetary Fund has come back to town and has thrown the government of president Mauricio Macri
a $50 billion stand-by loan, in case of emergency. And the market consensus since the IMF returned
is that Argentina will turn out okay. Despite the political risks of Macri losing his reelection bid in
2019, ushering in a return of Peronism and a quasi-socialist, semi-closed economy, investors are
giving Argentina’s financial managers the benefit of the doubt.
This week, after a long hiatus, Argentina made it back into the MSCI Emerging Markets Index.
“The Argentine inclusion into the MSCI is a positive for the country and puts its equity markets on
an even footing with debt,” says Jim Barrineau, head of emerging market debt at Schroders in New
York. “It comes on the heels of its IMF deal and, coupled with that, could lead to capital inflows
into the country, which will go a long way to reduce pressure on the central bank.”
Inclusion into the MSCI EM means that mutual funds and exchange-traded funds that are
benchmarked to that index will have to rebalance and invest in Argentina. More money for
Argentina equities means more money for companies there. That makes it less likely that foreign
exchange reserves will be used to prop up the peso as new inflows are expected.
How much is expected because of this?
Morgan Stanley estimates the MSCI upgrade will trigger around $3.4 billion in net inflows to local
equities based on the $750 billion in assets indexed to that emerging market index, of which $15
billion goes to Latin America.
MSCI also said this week that it should launch the provisional index for the country by September
1, 2018.
Local stocks tend to outperform their emerging market peers by almost 15% during the 12-month
period from the inclusion announcement to six months after implementation, according to Morgan
Stanley Research. “The news is not now; it is 12 months down the road,” Morgan Stanley analysts
led by Guilherme Paiva said in a note to clients on Thursday.
Financial services firms Galicia (GGAL) and Supervielle (SUPV), Pampa Energy (PAM) and
cement maker Loma Negra (LOMA) are Morgan Stanley overweights. All four are beating the
MSCI Argentina today.
Financial contagion is the main threat to a successful IMF program. Last week, central bank
chairman and MIT economist Federico Sturzenegger was replaced by Finance Minister Luis
Caputo. Wall Street investor and local fund manager Gustavo Cañonero is the bank’s VP. Argentina
now has to continue restoring market confidence and minimizing the pass-through of the weakening
peso to the real economy.
“The forex freefall destroys peso savings and encourages retail demand for dollars with a positive
shock to inflation and a negative shock to domestic consumption,” says Siobhan Morden, a
managing director at Nomura in New York. Pesky inflation, high interest rates and a weakening
peso could undermine governability and a successful IMF program. If this program is deemed a
failure by the public, Macri will not be reelected and Argentina faces the risk of an anti-IMF
government returning in less than two years. That will pull the plug on this Argentina reboot.
Investors would immediately sour, and emerging market fund managers would move to
underweight Argentina against the benchmark.
The peso depreciated around 12% in June and is down 48% year-to-date against the dollar. The
central bank has failed to lower inflation, even with 40% interest rates. Some are recommending a
“cautious optimism” now that Caputo is at the central bank. In theory, that merges monetary policy
with the fiscal policy of Macri’s economic team, led by Caputo until recently.
Morden says she expects a “technical upgrade” to the peso because of Caputo. MSCI also helps.
The inclusion in the index means more money coming into Argentina. The question will be whether
Argentinians continue dumping the peso, pushing it over 30.