After Weathering the Storm Earlier This Year, What Will Drive Peru’s Stock Market?

In the first article of this series, we explored the stocks which have been holding back the broader stock market and exchange-traded funds investing in Peru. Meanwhile, the second article details issues facing the country and how it’s dealing with them.

So what do these components combined say about the outlook for Peruvian equities?

Short-term pain

Continued short-term pain for stocks from the country is likely, primarily due to reduced overseas investment in light of the ongoing investigations in the Odebrecht scandal involving previous administrations of the nation.

Meanwhile, investors would also like to see tangible signs of implementation of the government’s plan for rebuilding the country after being hit by severe floods earlier this year.

Another aspect which could hurt investment at least in the short-term is the political challenge faced by the country.

The government led by President Pedro Pablo Kuczynski is not yet a year old but has already seen three ministers – Jaime Saavedra (Education), Martin Vizcarra (Transport), and Alfredo Thorne (Finance) – being sacked by the congress. A similar fate probably awaits the Interior Minister Carlos Basombrío.

Thorne is the latest casualty in the $530 million Chinchero International Airport project contract matter which was also responsible for Vizcarra’s ouster. Kuczynski has named Prime Minister Fernando Zavala as Thorne’s replacement.

Political investigations such as this will continue to keep investors at bay for the short-term.

An economy with potential

Though the country is struggling to grow at present, it is considered to be among the most robust in Latin America.

Apart from the efforts the government is making to get the economy back on track and tackle the corruption scandal, it has another component which can help it bounce back — monetary policy.

The central bank reduced rates in May for the first time in over two years by 25 basis points, but held on to the 4% level at the meeting in June. Central bank President Julio Velarde has said that the institution will wait for the “right moment” to further reduce rates, preferably once credit demand is rising.

Outlook on equities

The table above lists the price-to-earnings (P/E) ratios of the ETFs tracking the five major emerging market economies of Latin America. While Brazil (EWZ) is the cheapest, Mexico (EWW) is the most expensive. Peru (EPU) is in the middle, between Chile (ECH) and Colombia (ICOL).

Peruvian equities may continue witnessing some headwinds in the short-term. Moderate risk-taking investors might want to wait for these headwinds to pass before initiating or adding to their stock holdings from the country.

However, more adventurous investors would find current valuations quite attractive and may initiate small buying positions. Those investors not taking the fund route need to steer clear of all firms which have connections to the Odebrecht scandal though.

Peru Is Hoping To Turn Challenges Faced By Floods Into A Rebuilding Opportunity

Macro factors have had a major bearing on the stock market in Peru this year. Monthly economic growth in the country fell to near an eight-year low of 0.17% in April from a year ago as construction and manufacturing activity plummeted.

The country’s central bank also reduced the growth forecast for 2017 to 2.8% in June from 3.5% projected in March.

Floods in the first quarter of this year were the main reason for the sharp decline in economic activity, particularly in construction.

The country’s Ministry of Economy and Finance has held that the floods damaged infrastructure worth about $4 billion and has estimated that it may have shaved close to 0.5% of economic growth off the first quarter of this year with construction having nose-dived by 5.3% in the same period.

The other challenge is the corruption scandal.

The Odebrecht scandal

Brazil’s construction giant Odebrecht’s $800 million corruption scandal has engulfed countries across Latin America. Of the total sum, the company has admitted to paying $29 million in bribes to three Peruvian governments under presidents Alejandro Toledo, Alan Garcia, and Ollanta Humala.

Due to this, the country has witnessed a drop in investment confidence, which has resulted in an overall decline in investment. Current President Pedro Pablo Kuczynski has promised a clean-up, but it will take time for investors to regain confidence.

An opportunity?

As far as the damage from floods is concerned, President Kuczynski has said that reconstruction and new infrastructure will cost $9 billion over the next five years. This will undoubtedly push the country’s fiscal deficit up. Central Bank President Julio Velarde stated that the institution expects a higher fiscal deficit of 3% of GDP in 2017 and 3.5% in 2018.

However, the spending plan will be helpful in raising the country’s economic output. Though the impact was severe enough to slow down economic growth this year, the central bank expects GDP to grow by 4.2% in 2018 – a tad higher than previously estimated.

The challenge posted by the corruption scandal is a common thread across the region, hence it’s not a challenge for Peru alone. The government’s response so far has been swift, and given the robustness of the economy, the country stands a better chance of seeing investors return earlier than most of its Latin American peers. But this will also depend on the future course of action taken by the administration.

What do these and other developments mean for Peruvian equities going forward? Let’s look at this in the next article.