Southern Charmers

	Elliott Gue PF Newsletter.com
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Rich in natural resources and increasingly trade-friendly, South America offers opportunity. Here's how to profit.

South America has become much friendlier to investors.

Countries like Brazil, Chile and Peru have reduced their reliance on external debt and implemented sound fiscal and monetary policies. These reforms have led to far greater economic stability.

South America is also gaining attention as a key source of basic commodities. In particular, the region has vast reserves of iron ore, copper and even oil and natural gas. Brazil and Argentina are also major exporters of agricultural products. What's more, the region is becoming the first stop for commodities for resource-hungry countries like China.

Investors in the region have been amply rewarded for recognizing "the other America's" economic renaissance--the Latin America iShares have stomped the S&P 500 by an 83 percent margin during the past two years.

While the long-term case for investing in the region is sound, it isn't without risks. Early in 2005, local stock markets saw corrections—investors in the region should be prepared to endure periodic market volatility. Below we review several of South America's key markets and the best ways to play the region's growth.

Dazzling Footwork

As expected in the beginning of 2005, the Brazilian market finally had a correction (see October 27, 2004 Article Update). For the first week of trading, the market was down 6 percent, and as of the time of writing, the correction has surpassed 7 percent.

That said, there's value in select Brazilian stocks, especially for long-term investors. Furthermore, Brazil cut its capital gains tax on equities from 20 percent to 15 percent, effective January 1, 2005; that's yet another step in the right direction.

Turning to the economy, the major positive is the solid domestic consumer demand and the rise in consumer confidence. In addition, the favorable commodities environment (although hiccups are to be expected) continues to support Brazil's external financial position.

Short-term market gyrations notwithstanding, the easiest way to invest in Brazil is through the Growth Portfolio's Brazil Fund (NYSE: BZF). But if you want some individual company exposure, there are some great opportunities in domestic consumer companies, given our assessment that the Brazilian economic recovery has a big domestic component in it.

Our favorite is Brazil Telecom (NYSE: BRP), a provider of telecom services to consumers, businesses and governments in southwestern Brazil. The company is in an expansion mode (wireless business) while experiencing large free cash flows.

Keep in mind that this is a company that doesn't have a great deal of exposure in the US yet, and can surprise on the upside, offering excellent returns. Expect to endure some turbulence while holding this stock. Buy Brazil Telecom below 35.

Don't Cry For Me

As recently as 2002, Argentina was embroiled in an economic and political meltdown that led to a deep recession and the largest sovereign debt default in history.

Until 2002, Argentina maintained a currency peg against the US dollar. But dollar strength in the late 1990s and early 2000 pushed the economy into a deep recession.

By late 2001, the system unraveled. And in early 2002, then-president Fernando de la Rua was ousted by an angry mob of protestors. His successor sharply devalued the peso and defaulted on the nation's more than $100 billion in debts.

There's been some recovery since the trough of the 2002 recession but Argentina still has a host of economic problems that will need to be addressed in coming years.

Most important, the country is still negotiating with its foreign creditors on the disposal of its massive debts. President Nestor Kirchner has taken a hard line in these negotiations, offering investors no more than 30 cents per dollar of debt; most creditors are demanding far more. We see little scope for a resolution over the next year.

Nevertheless, it would be a mistake to completely ignore Argentina. The country is rich in natural resources and is an important exporter of the agricultural products that Asia most desperately needs.

Our favorite play on the market is Cresud (NSDQ: CRESY), a major producer and exporter of grains, milk and beef cattle.

Cresud has been adding to its herd in recent quarters and now owns about 95,000 head of cattle. In September 2003, the discovery of foot and mouth disease in Argentina limited the company's access to important foreign markets like the US.

But Argentina has been disease-free for over a year, so it's likely the export restrictions will come down this year. Firm pricing for cattle—cattle prices are up more than 50 percent since 2002--should boost profitability in this segment.

Cresud also raises corn, wheat and soybeans. Soybeans are in particularly high demand in Asia because soy protein is central to human and livestock diets. The increasing demand is pushing prices higher. Buy Cresud under 15.

In the Black Inca

Peru has transformed economically in the past few years. Gone are the days of rampant inflation and profligate government spending.

Peru has a standby loan agreement with the International Monetary Fund (IMF). As part of this deal, the country is required to meet certain economic targets such as a major reduction in the budget deficit.

Recent reports suggest the government of President Alejandro Toledo has maintained a high degree of fiscal and monetary discipline and will manage to hit those targets this year.

Also encouraging are a number of new free trade deals. That includes a bi-lateral free-trade agreement with the US that opens the US to Peru's agricultural and mineral exports.

Freer trade policies and strong metals pricing have helped to push Peru's trade surplus to about $2 billion. China, in particular, has become an important trading partner and imports large quantities of copper from Peru.

Southern Peru Copper (NYSE: PCU), a miner, smelter and refiner of copper, is a backdoor way to play strong Asian demand. The company is 14 percent owned by Phelps Dodge, the US mining giant.

And Grupo Mexico, the world's third largest copper company, has a majority stake. In fact, Grupo plans to merge its copper mining operations with Southern Peru to create the world's largest privately held producer.

A deal between Grupo Mexico and Southern Peru would make the company a dominant force in world copper production. But when buying Southern Peru be prepared for significant volatility—the stock is very sensitive to any news surrounding Chinese demand for copper. Buy Southern Peru under 47.50.

Chile is Hot Today

President Ricardo Lagos' administration has a proven track record of solid economic management. The country has been aggressively using monetary policy to keep inflation within the Chilean Central Bank's 2 to 4 percent target range.

More important, the government has been unusually successful negotiating free trade agreements with key trading partners. Last year, Chile finalized trade agreements with both the US and EU.

Potentially more exciting are the company's proposed agreements with China and India; negotiations began at the end of last year and most expect some sort of a deal to emerge in the first half of 2005.

Because Chile is the world's largest copper producer, the nation's growth is closely tied to copper pricing. In the latter part of 2004, strong pricing powered a record trade surplus for Chile and prompted a surge in foreign direct investment. Large surpluses and strong foreign direct investment are expected to continue this year.

Compania de Telecomunicaciones de Chile (NYSE: CTC) is Chile's largest fixed-line telecom operator. In total, this company owns 90 percent of Chile's local telecom market and about a third of the long distance market.

Spanish telecom giant Telefonica holds a more than 40 percent stake in TeleChile and recently agreed to purchase its mobile subsidiary for a combination of cash and the assumption of debt.

That deal leaves TeleChile a solely fixed-line operator. This business isn't growing. In fact, the company is losing some customers to the mobile operators. But TeleChile is a solid dividend play and management's restructuring plan will boost cash flows, allowing the company to support its near 8 percent dividend yield.

Specifically, TeleChile has reduced its workforce and is gradually eliminating its debt—the debt-to-equity ratio has fallen from more than 70 percent in 1999 to less than 50 percent at the end of 2003. Buy TeleChile below 12.

Elliott Gue will be available to take your questions until Monday, January 24. Please use the form below to submit your questions.