Q: Would you give us a brief description of the fund?
A : We manage $8.5 billion in a series of funds that are focused on Latin America with about $900 million of that in a mutual fund open to the U.S. investors.
The BlackRock Latin America Fund was started in 1994 as part of a suite of Latin American portfolios. In addition, we have a larger fund for offshore investors, the BGF Latin American Fund. We also have a closed-end fund that is registered in London, UK as the BlackRock Latin American Investment Trust. The BlackRock Latin American Opportunities Fund is our offshore small cap fund.
Q: Which countries does the fund invest in?
A : The fund is more weighted towards Brazil, with relative underweight positions Mexico, Chile and Peru with virtually no weightings in Colombia, the Caribbean and Central American region, even though some companies from these areas may belong to our universe. Argentina and Venezuela are off our benchmark because of their governmental policies and corporate governance issues. In fact, Morgan Stanley, the index manager for the region, removed the latter two from its traditional Latin American benchmark to a Frontier Markets benchmark.
Q: Could you describe the recent economic changes in these countries? [
A : About six years ago Mexico was actually more weighted in our fund compared to Brazil. After the regime changed in Brazil in 2002, instead of charting a far left path as was expected, the country maintained the same fiscal and economic policies of the previous regime. That, coupled with the sudden economic growth of the middle class in Brazil and the low interest rate, has made the investment climate there much more attractive. The performance of Petrobras Energia SA on the oil side and Vale SA in the iron ore mining sector has changed the dynamics of this country a lot. Consequently, our weighting in Brazil today is nearly 75% with positions in Petrobras and Vale.
With the establishment of stricter rules and regulations we see lots of IPOs coming out of Brazil, which provides investors with the ability to invest in smaller caps with as much disclosure, corporate governance, reporting, and independent audit committees as you would see anywhere else in the world.
As far as Mexico is concerned, their economy started performing better about 15 years ago with the passage of NAFTA and owing to the close ties with the United States. The country has exports representing 30% of its GDP against 13% in the case of Brazil, but it had to fight its way out of the tequilla crisis of 1994-1995 that took the better part of the last decade. On the other hand, since they have very close ties with the U.S the recent downturn in the U.S market affected their economy as well. Our weighting in Mexico is between 18% and 19% at this point. The biggest position that we have in Mexico is America Movil, which is a pan-regional wireless provider.
The economy of Chile is much smaller with exports representing 60% of the GDP, out of which the export of copper accounts for 40%. Codelco, the biggest producer of copper, is a government owned company, and there are no copper stocks listed on the Chilean stock exchange. That means we have a limited investible market of retailers, utilities, airlines and other domestic companies. Our weighting in Chile would be about 6%.
The balance of our positions would be in other countries that are spread in the region.
Q: What is total market value of all exchanges in the region?
A : It is roughly about $2 trillion.
Q: How would you describe your research process?
A : We have a team of three analysts and each of them has several sector of focus. They all look at different companies in that particular sector in the region.
We spend a lot of our time in various countries, we meet company managements and attend conferences. Being one of the largest investors in this region, we also get a lot of company visits at our offices. For our universe of about 175 to 200 companies we have about 600 meetings with companies in a year.
The main aim is to maintain a strong relationship with the management and to understand their philosophy of being a publicly traded company, as well as their approach towards minority shareholders.
But at the end of the day we are looking to invest in growth stories through our investment style, which revolves around paying a reasonable price for earnings growth rather than being a momentum investor. We are not looking to trade stocks that are moving fast. In a similar way, we are not looking to purchase stocks that are underperforming either. We have a bottom-up and we review the region on a company-by-company basis. To test our models in different sectors, our basic work would require different type of analysis and valuation metrics to judge whether the stock is cheap or not.
Q: Once you have done the research, how do you pick your stocks?
A : We start with our existing benchmark to help us calibrate our positions but it does not dictate what we own. We have today about 12% of the fund invested in non-benchmark stocks. For those large cap stocks that are in our benchmark and have a market cap of more than $10 billion, we use a rule of not being 400 basis points underweight or overweight relative to the benchmark. For mid cap stocks with market cap between $2 billion and $10 billion we try not to be overweight or underweight by about 200 basis points whereas in our small cap stocks up to $2 billion we limit our variance to 50 basis points.
For the small and mid-cap stocks we do not want to have more than five days trading of any stock to protect against any liquidity risk.
Q: Can you provide an example of an off-benchmark investment?
A : We owned stocks of Antofagasta PLC, a large copper mining firm in Chile. It is listed in London and also a member of FTSE 100 index even though it is a Latin American company. At the time when we visited them we checked their balance sheets and other facts like production methods and found that the stock was no longer expensive. Their cost of production was very low and they were profitable even though price of copper was near historic low.
We initiated a position in the third quarter of last year when the stock traded at a 30% discount to peers and in April of this year when the stock traded at a premium to other miners we sold our position.
Q: When does a stock become a buy and, eventually, a sell?
A : We establish target price for each company and when the stock trades near its estimated value, we revisit our investment thesis. If we feel that the fundamentals of the stock have not changed, we will sell the stock.
We initiate our position in the stocks with less than 0.5% holding before we build the position over weeks or months. Then, we set our allocation weights that may be as high as 5% of the portfolio.
Q: What is your portfolio turnover?
A : The turnover is 40% to 60%. In the last year and a half it was around 60% because we have been trying to have 100 to 150 basis points in cash, which we can use when we have days of significant volatility. But in normal times we hold cash below 1% to support fund withdrawal and other transactions.
Q: Can you give us an idea of the position of minority shareholders in this region?
A : Most of these countries had two sets of shares, one voting and the other non-voting share, especially for foreign investors. Even though Brazil still has this concept with some of the existing shares, all new listings have only one class of share which makes a level playing field. In Mexico, according to recently amended rules, if an investor owns more than a certain percentage of non-voting shares, it would trigger the need for purchasing of more shares to convert the entire lot to voting shares.
Q: How many positions do you have in this fund?
A : We have about 70 names in the portfolio, out of around 170 names in our investible universe of stocks in the region.
Q: Do you follow your benchmark for weighting in different sectors and countries?
A : We do not have any strict rules to govern how much we would underweight or overweight in any sector or country compared to a specific benchmark. Our direction is more driven by the bottom-up research that we do.
That said, we do have top-down views on countries and sectors in the region, and those views somewhat influence how much overweight we will be in a sector or a country.
It is also hard for us to have specific targets on a country basis because of the different sizes of the countries in the region as well as the size of their economies.
We use the benchmark to calibrate the positions at the start, but we are quite willing to go off the benchmark for as many stocks that we could possibly find if they meet our basic criteria.
Q: At the portfolio level, what kinds of risks do you perceive and how do you control them?
A : We know that our investors do not invest in this fund to have a defensive income generating portfolio because that is not our motto. For that reason we use our proprietary risk management system called the ‘BlackRock Solutions’ to conduct a sector analysis and find out how much of the risk is market specific and how much of it is sector specific.
We look to maintain a beta close to 1 considering the high volatility of the Latin American market, although this may vary from time to time depending on market conditions. We also have monthly meetings with our risk portfolio team to check the portfolio with all the latest input.
Most of the risk in the portfolio tends to be stock specific and it is something that feel comfortable dealing with. Given our bottom-up portfolio construction, we want to make sure that even if there are a couple of stocks with high risk, they are our high conviction stocks in the portfolio.
Furthermore, despite the history of currency devaluations in this area, these countries have made significant structural changes to their economic models, thus practically wiping out most of their dollar debts. Today, they have significant reserves that far outstrip the dollar debts outstanding. All that makes our position safe as long as we are able to take care of the stock specific risks in this portfolio.