PIMCO sees Mexico returns even if rates drop

MEXICO CITY Sat Jan 19, 2013 1:09am GMT

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MEXICO CITY (Reuters) - Bond giant PIMCO thinks investors can make good returns on Mexican bonds if souring global growth prompts a cut in interest rates and sees opportunities in high-yielding Brazilian local currency debt, according to a senior portfolio manager.

Michael Gomez, co-head of emerging markets at Pacific Investment Management Co, said Mexico's hands-off approach to its currency and markets had served it well but Brazil should think about dropping barriers to foreign investment, which had helped create a "toxic mix" for financial investors.

Foreigners ploughed $57 billion into Mexican stocks and bonds in the first three quarters of 2012, almost five times more than Brazil, pushing stock and bond prices to record or near record highs, while its peso currency has also firmed.

Gomez, who helps oversee $100 billion worth of emerging market assets, told Reuters in an interview he did not think current Mexican valuations would put off future investors.

PIMCO's own analysis suggested the quality of the country's debt was closer to an "A" rating rather than the BBB+ grade it has from major credit ratings agencies, he noted.

"The Mexican peso doesn't look like an overvalued currency by any stretch of the imagination. What the Mexicans have engineered with a currency that is relatively competitive is low inflation and higher growth," Gomez said.

"It's a position that has very good carry, nominal and real rates look much more suitably priced than anything we see in the U.S. or compared to Europe. At the same time, in a slip-up or in a stumbling of the global economy you can have significant gains if the Bank of Mexico cuts interest rates."

Mexico's central bank has held rates at 4.5 percent since mid-2009 but surprised markets earlier on Friday by hinting at future rate cuts. Gomez said he thought rate moves were unlikely, but said there could be frontloading in bond buys as investors tried to get in before rates fell.

In contrast, Brazil has cut borrowing costs to a record low of 7.25 percent in a bid to boost growth. Gomez said it was "anomalous" for local-currency Brazilian bonds to have nominal yields of more than 9 percent given rates in the rest of the world were so much lower, although this made them a good investment.

"Relative to the balance sheet, relative to the carry and relative to the fundamentals, onshore opportunities in local Brazilian markets make a lot of sense. Those are positions which may take a little longer to play out but we think you get paid to hold them," he said.

"TOXIC" TAXES IN BRAZIL

According to Thomson Reuters data, PIMCO has more than $8.5 billion invested in Brazilian government bonds and about $2.6 billion in Mexican government bonds.

Gomez urged Brazilian policymakers to reassess barriers to foreign investment in light of a "challenging" global backdrop.

Brazil has started to unwind a financial transaction tax imposed to try and stem hot money inflows, which push up the real currency, but it remains much more closed than Mexico.

"It's very difficult when you see a country's financial markets have a combination of the lowest growth, sticky inflation, poorly performing currency, lagging stock market and abnormally high real and nominal interest rates," he said of Brazil.

"That's a pretty toxic mix and doesn't necessarily fit with the evolution of the Brazilian story as one of the most important ... economies in the world and one that certainly has a great deal of prospects and some tailwinds from an investment perspective ahead, from the World Cup and the Olympics."

Brazil is hoping to attract private investors to help upgrade roads, ports and airports ahead of the 2014 World Cup soccer tournament and the 2016 Olympics.

Mexico, meanwhile, is staking its growth prospects on an ambitious series of structural reforms involving changes to taxation, social security and the state-run energy sector, but Gomez sounded a note of caution.

"We'll see ultimately how that comes out. Our sense is that we don't get any major sea changes," he said.

Optimism about reforms has helped push the peso to a 10-month peak this week and currency speculators' bets on further gains are at a record high.

But a run in stocks may have peaked, after Mexico's benchmark IPC index .MXX rose 18 percent in 2012 and stocks hit a fresh record on Friday. Gomez said PIMCO saw better returns this year in China and Russia.

"Mexico is one that has done very well and is perhaps not set to be the leader of the pack in 2013," he said. The same applied to Brazil, whose Bovespa .BVSP rose 7 percent in 2012.

(Reporting by Krista Hughes; Additional reporting by Michael O'Boyle; Editing by Diane Craft and Richard Chang)

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