Since Donald Trump announced his presidential bid, Mexico has been a volatile topic. But since Trump assumed office, his hawkishness regarding his southern neighbour has moderated, leaving opportunity for the emerging market to provide returns.

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As a candidate, Trump “talked about the wall. He talked about NAFTA being the worst trade agreement ever, that Mexico was stealing jobs and that free trade didn’t make sense,” recalls Richard Lawrence, the senior vice-president of portfolio management at Brandywine Global Investment Management in Philadelphia, Pa.

Trump appointing Peter Navarro as leader of the White House National Trade Council confirmed that narrative. “[Navarro] is a guy who’s been very vocal about countries that run persistent trade deficits with the U.S.,” says Lawrence, whose firm manages the Renaissance Global Bond Private Pool.

The trade consensus, then, is “that the dollar is just going to keep soaring upwards on a better fiscal outlook in the U.S. and a much more protectionist trade stance.”

But Trump has changed his outward aggression regarding trade and Mexico, preferring renegotiation over elimination. Consider that, on Thursday, the administration officially triggered the 90-day consultation window that must occur prior to a NAFTA renegotiation.

Speaking prior to Thursday’s announcement, Lawrence said of Mexico, “we see a bull story. [Trump has] become far more dovish; president Trump is very different from candidate Trump. We’ve gone from NAFTA being the worst agreement ever to something that needs to be improved on and renegotiated. I wouldn’t disagree with that; it’s 20 years old.”

On Thursday, Lawrence said, “My initial reaction is that this doesn’t change the game–it’s in line with our expectations.”

Statements following the NAFTA consultation announcement seem to support Lawrence’s view.

U.S. Commerce Secretary Wilbur Ross said last week, “I look forward working with the president, [U.S. Trade] Ambassador Lighthizer, and our counterparts from Mexico and Canada to find a solution that is both fair and beneficial for all parties.”

Lawrence says more moderate rhetoric could be the result of Trump giving less credence to advisors like Navarro. “He’s listening to people we would describe as more pragmatic from a global trade point of view, like a Gary Cohn or a Steve Mnuchin. And Mexico is only about 7% of the overall U.S. trade deficit.”

In dollar terms, Mexico’s trade deficit with the U.S. is currently US$60 billion. But, Lawrence says, “The U.S. exports to Mexico about US$240 billion worth of goods; it’s much like the relationship the U.S. has with Canada. […] It’s very much a two-way relationship.”

Since the two countries are so closely tied, “There’s somewhere between five and six million jobs in the U.S. that rely on the export relationship with Mexico. And interestingly, Mexico sends about 80% of its exports to the U.S., but the U.S. content of those exports is about 40%,” says Lawrence.

The two countries’ supply chains are highly integrated, he adds, and “goods can often move back and forth across the border more than once. When you dig into the story and dig into the numbers, you get a different picture on what the trade relationship is between the U.S. and Mexico.”

Positions in emerging markets

Lawrence says, “When I look at 10-year bonds in Mexico right now, the yield is over 7%. For 30-year bonds [the] yield’s over 7.5%.” As of April 21, Lawrence has “about a 10% position to Mexican bonds, and almost 13% position overall to the Mexican peso.” As of close on May 22, a U.S. dollar was worth 18.66 pesos.

In Q1 2017, “The Mexican assets were one of the best-performing in the portfolio,” he says. “We think the upside here would be that we get constructive trade policy, and we think we’re going to get a slowly improving global growth story; that could be a very constructive environment for Mexican assets.”

In Lawrence’s view, the biggest risks to the Mexican economy would be:

  • a weakening U.S. economy, given Mexico’s aforementioned exposure;
  • a large, hawkish shift in trade policy; and
  • domestic politics in Mexico, since the country is holding a general election in July 2018.

But Mexico isn’t the only emerging market benefiting from global growth and a conducive environment for commodity prices. “I’d say we’re broadly constructive on the emerging markets. We own positions in Brazil, in India, in Indonesia, South Africa, Poland, Malaysia amongst others. And that part of the portfolio has performed extremely well year to date.

“And as long as the U.S. dollar stays moderate to slightly weaker, which is our best case, we think we’ll continue to see good performance from the emerging markets as part of our global portfolios,” Lawrence concludes.