The iShares MSCI Mexico Capped ETF (NYSEArca: EWW), the largest ETF dedicated to Mexican equities, is slumping. Down about 8% over the past month, the ETF is now up 14% this year, meaning its year-to-date gain has been cut in half in just seven weeks.
Negotiations surrounding the North American Free Trade Agreement (NAFTA) are plaguing Mexican stocks and EWW. EWW tries to reflect the performance of the MSCI Mexico IMI 25/50 Index, which does not hedge its currency risks.
The peso is an important part of the Mexico investment thesis because exports account for over a third of GDP in Latin America’s second-largest economy. So are oil prices because Mexico is one of the largest non-OPEC producers in Latin America.
“The ongoing North American Free Trade Agreement (NAFTA) renegotiations are not likely to lead to a full abrogation of the treaty, and the final deal should not have a significant impact on Mexico’s trade access to the U.S.,” says Fitch Ratings. “However, the recent extension of the negotiation timeline and comments from each government following the conclusion of the fourth round of talks have highlighted growing uncertainty and risks to the treaty.”
In June, the U.S. and Mexico reached an accord to end disputes over the sugar trade between the two countries. Some investors believe Mexican stocks still offer value, particularly for investors willing to be patient with EWW. Mexico is Latin America’s second-largest economy behind Brazil. The good news for investors consider EWW is that President Trump, to some extent, has back-pedaled from some of his harsher campaign rhetoric aimed at Mexico.
Related: Marveling at the Mexico ETF, Up 27% YTD
However, speculation is swirling about the U.S. and its place in NAFTA with some market observers assessing the possibility of the U.S. withdrawing from the free trade accord. That move is potentially devastating for Mexico’s economy.
“If the U.S. withdrew from NAFTA, the Mexican economy would face significant uncertainty, which would likely lead to an immediate confidence shock and short-term market volatility,” according to Fitch. “Growth would slow through the medium term, from an already modest base, as the initial disruption would likely result in lower investment and trade dislocations with potentially sustained effects on consumer confidence. It would also act as a negative productivity shock affecting potential growth rates through the medium- and long-term. NAFTA abrogation would mean defaulting to World Trade Organization (WTO) rules; however, WTO rules are not as comprehensive, and tariffs could rise on certain Mexican export sectors.”
EWW allocates almost a quarter of its weight to consumer staples with telecom and financial services names combining for nearly a third of the ETF’s weight.
For more information on the Mexican markets, visit our Mexico category.