As growth in most of Latin America screeches to a halt, weighed down by the Chinese slowdown, weak commodity prices and bad economic policies in some countries, could the party be over for Spanish companies? Eleanor Wragg reports.
After Spain was roiled by the one-two punch of the global economic and European debt crises, the vibrant markets of Latin America provided a much-needed lifeline for its investors, whose spending spree in the continent since the 1990s led to them being dubbed ‘reconquistadores’, in a nod to Spain’s colonial past. Those cultural and historic ties also helped support decent volumes of trade between the two sides, with Latin American commodities and Spanish consumer goods crossing the Atlantic with reassuring regularity.
Desperate to keep up profits amidst weak domestic demand, the number of companies based in Spain that export overseas soared by 50% from the start of the economic crisis in 2008 to 150,000 by 2014. By the end of 2014, the blue-chip IBEX 35 companies were gaining an enormous 23% of their sales revenue from Latin America – second only to the 40% they earned from the domestic market. The region as a whole accounts for 35% of Spanish foreign direct investment, across sectors as varied as telecommunications, construction and retail, with almost a third of that concentrated in Brazil – which is now grabbing headlines as its once-effervescent economy heads into its deepest recession in decades, catching downgrades to junk ratings from Fitch and S&P in the process.
For Spain’s banks and corporates that bet the farm on the Latin American economy, this is clearly bad news. Proof that investors are rattled came as César Alierta, Ignacio Sánchez Galán and Ana Botín, presidents of Telefónica, electricity giant Iberdrola and Banco Santander respectively, called a meeting with Brazilian finance minister Joaquím Levy in September. The fact that Levy – a US-educated “Chicago Boy” – was subsequently ousted in December and replaced by former planning minister Nelson Barbosa doesn’t bode well for investors who were hoping for tighter fiscal discipline. But according to Carlos Caicedo, senior principal analyst for Latin America at IHS, for banks at least, there’s no need to hit the eject button yet.
“One of the characteristics of the banking system in Brazil is that they are well capitalised, and they are risk-averse in terms of lending at the moment. They are cutting quite aggressively in terms of lending in order not to fall in the trap of non-performing loans,” he says. While he concedes that banks in Brazil are suffering in financing consumer items, he says there’s no real problem in the real estate and mortgages sector. And while giant Brazil represents more than half of the combined economic weight of South American countries, he’s still quietly optimistic about the banking sector. “Profits will go down, but we are not talking about a systemic crisis in the banking sector in Latin America. It would be a question of good risk management in 2016 and the beginning of 2017. And if this risk management is good, the banks should weather the storm and they should be able to go back into expansion by 2017,” he adds.
In a January 2016 note to investors, Spanish banking firm Caixabank took the view that although Brazil is the main receiver of Spanish FDI in Latin America, other countries with much better prospects also receive considerable amounts, such as Mexico and Chile, and these should be taken into consideration. It also emphasised that the slowdown in Latin America is expected to be temporary in most countries as they return to higher growth rates as from 2017, adding that “Spanish assets abroad are likely to continue generating considerable returns, as has happened in the past. For these reasons, we do not expect the slowdown in the emerging countries in 2016 to excessively deteriorate the assets of Spanish FDI and, as a consequence, the net debt position.”
“The Spanish banks are in a better shape than they were during the crisis. They seem better prepared to cope with any shock. That being said, it does not mean that they, or even other Spanish industries, will not be affected by the current developments in Latin America,” says Daniela Ordoñez, Euler Hermes’ regional economist for Spain, Portugal and Latin America and the Caribbean.
Spanish thinktank AFI points out that trade flows to Latin America have actually remained stable in recent months despite the region’s economic difficulties, particularly those facing Brazil. In a January report, it notes that the sharp drop in exports to Brazil has been “offset by growth in exports to Mexico and other countries presenting more stable macroeconomic conditions”.
But overall, trade is indeed slowing. According to Francisco Fernández de Trocóniz, head of global trade and international banking at BBVA: “Spain is clearly reducing its import of goods from Latin America: CAGR 2010-2014 was 8.5% but fell almost 5% in 2014 when compared with 2013, and deteriorated further during 2015 [-14.3% year-on-year as of November].” That said, behind the figures, a different story emerges. While the value of imported energy and commodities – which made up two-thirds of total imports from Latin America to Spain in 2014 – has tumbled, food, beverages and tobacco imports are growing by around 10%. This is a massive rise for a segment that represented over 20% of total imports from the region in 2014. What’s more, BBVA research shows value-adding sectors such as automobile and capital goods, although still very small in relation to the total, posted double-digit growth in 2015.
A silver lining
Meanwhile, Fernández de Trocóniz highlights that while Spanish exports to Latin America plunged by nearly 9% in 2014, they have recovered their long-term average growth rate [+7.3% year-on-year as of November 2015, equal to the 2010-2014 CAGR]. “The breakdown of Spanish exports into sectors remains stable since 2010: capital goods constitute approximately one third of the total, followed by intermediate goods, at around 25%, autos at 10%, consumer goods at 10%, energy at 6 – 7% and food, beverages and tobacco at 5 to 6%,” he says. “This latter sector has remained particularly resilient during the slowdown, with double-digit growth rates accelerating in 2015 above the long-term averages. Autos, consumer goods and intermediate goods all grew more than 10% in 2015 but fell between one and 15% in 2014.”
This is something of a relief, as while the Spanish economy is currently lauded as the eurozone’s biggest improver – growing by over 3% in 2015 and forecast to continue in the same vein over the coming two years – this growth comes from a low base. With nearly a quarter of the Spanish population still unemployed and over a third of workers earning the minimum wage of €645 – leaving little spare cash for luxuries – it’s hard to imagine a boost in domestic demand sufficient to make up for any lost earnings over in the New World. Although as Fernández de Trocóniz points out: “It has been found that domestic consumption seems to exert a substitution effect regarding sales abroad, which gives rise to a rebalancing of resources between domestic and foreign markets.” He adds that the relationship between growth in Spanish domestic demand and that of sales abroad has been asymmetrical, with only falls in the domestic market having a significant effect on export activity, by triggering a reorientation of sales and making firms more inclined to take on internationalisation costs.
Ordoñez of Euler Hermes believes that despite the current troubles, there is still great potential in Latin America. “These are emerging economies with big needs, particularly in infrastructure. Natural resources are abundant. The middle class will continue to grow in coming years, pushing up consumer-oriented sectors such as retail or electronic devices. Financial services is also a sector with big potential as the banking systems remain underdeveloped.”
Moreover, Spanish companies are not as desperately reliant on Latin America now for trade as they were in 2011 and 2012. A growing presence in markets with a positive outlook such as the US, the UK and Germany, may well mitigate the weakness stemming from emerging markets. Spanish exporters are also seeing steady growth in exports to Asian economies, which currently make up 11% of the total. “The trade flows from Spanish companies have increased more towards the European Union and more towards the US market and Asia,” points out IHS’s Caicedo.
It is important to note, however, that those Spanish companies who are already present in Latin America are going to be hit hard by currency depreciation there. “When they repatriate profits or dividends, they are going to get less money. The evaluation that the Spanish companies are making is that by 2017 Latin America will again be a continent for growth. 2016 will be a case of muddling through, staying there and looking for opportunities,” says Caicedo. Nevertheless, wily investors could also use this to their advantage for acquisitions in more competitive countries, such as Brazil, Mexico or Colombia.
Overall, while there is clearly cause for concern for Spanish banks and corporates in Latin America, the region is very diverse. While recession in Brazil continues to deepen, Mexico is doing better than the regional average and Chile, Colombia and Peru have built up a good financial cushion to see them through the worst. There are bright spots in IT, infrastructure and banking, where Spanish companies traditionally have had better prospects. The party may not yet be over for Spain in Latin America, although the music has certainly died down.