Peso Plunges Provide Pricey Investment Lesson
For many investors in Mexico, this is a year to forget. But the latest economic maelstrom offers a lesson in risks and rewards of investing in emerging markets.
Last week, Mexican President Ernesto Zedillo Ponce de Leon stunned investors by effectively devaluing the peso by 12.7 percent, then letting it float, whereupon it plunged further.
Days earlier, top Mexican officials promised that the peso would stay on its slow, daily incremental devaluation program. But a resurgence of rebel activity in Chiapas, a growing trade deficit, and rising interest rates prompted a run on the peso and the abrupt policy reversal.
Defending the peso `like a dog'
In 1982, Mexican President Jose Lopez Portillo reneged on a similar promise to defend the peso ``like a dog.'' He was reportedly met by angry Mexicans who mocked him by barking.
President Zedillo's devaluation probably didn't prompt any canine calls from United States holders of Mexican stocks. But there was dismay. At one point last week, the peso had slipped by 27 percent against the dollar. That means US investors saw 27 percent knocked off the value of their Mexican holdings in dollar terms. By Friday, the peso had recovered some ground. And many stocks traded in the Mexican Bolsa rose modestly in price, which softened the currency blow a bit.
``Currency risk is absolutely a key dynamic in foreign markets,'' says Stephen Holmes of Wright Equifund, a Bridgeport, Conn., company that manages nine single-country mutual funds.
Despite the risks, overseas stocks are attractive investments.
Morningstar Mutual Fund rating service reports that, over the last three years, international mutual funds have produced average gains three times higher than the Standard & Poor's 500 stock index. That performance has led to an explosion in new foreign mutual funds, including single-country funds. There are more than 40 single-country funds to choose from now.
Risky single-country funds
Last year, for example, Mexico was among the top performing overseas markets. But the single-country funds can be risky. The Mexico Fund and two other closed-end Mexico funds each fell almost 18 percent last week. ``If you're buying into the more heavily industrialized economies ... the risk level isn't too bad,'' says Thomas O'Hara, chairman of the National Association of Investors Corporation in Royal Oak, Mich. ``But when you get into the emerging markets, the risk is pretty high,'' he says.
Financial advisers suggest that a more conservative approach to foreign investing is buying international mutual funds, which spread the risk over several countries or regions. The commission fees tend to be lower for individual investors than those charged on single-country funds. Another way to spread risk is to buy several single-country funds. Wright Equifunds recommends putting equal amounts of money into five: Belgium, Hong Kong, Italy, the Netherlands, and Switzerland.
Within the foreign mutual-fund portfolios, Morningstar reports money managers are favoring Europe and Japan, expecting stocks to gain as these economies recover. Managers suggest individuals limit exposure to single-country funds. ``If you have 5 percent of your portfolio in high-tech growth stocks, you might replace them with a Mexico Fund,'' say Colin Matthews, a Morningstar fund analyst.
For those willing to bet the worst is over, he says Mexico may present a buying opportunity. Take firms with strong export sales to the US; the devaluation gives them a 30 percent price advantage. ``There's no way to pick the bottom of the Mexican market,'' says Randy Alexander at Edward D. Jones & Co. in St. Louis. ``But by ... spending half of what you want to invest now and half later, you protect yourself if the market should fall further.''