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A Look at the Soaring Latin America Group

Pickings are slim in this year's leading category.

Gregg Wolper, 02/14/2012

Through Feb. 9, the Latin America stock category has been 2012's best performer among the 90-plus Morningstar categories. It has not eased into the top spot by default; it has earned its place. The category has soared 18.4%, putting it more than 4 percentage points ahead of the next-best performer, the U.S.-focused technology category. That’s quite a turnaround. In 2011, the Latin America group sank 22.6%, posting the second-worst category performance.

Attitude Adjustment
A change in the attitudes of global investors helps explain the trend. Despite ongoing worries about the eurozone debt crisis and restrained expectations for global growth, encouraging economic news from the United States and the hesitant but meaningful steps that European leaders have taken to address their situation have eased investor fears to a degree.

As a result, some who had fled from what they consider riskier holdings have returned. In that sense, the strong Latin American gains are part of a broad theme. Other categories hit hardest last year, such as U.S. financials and diversified emerging markets, also land among the highest gainers early this year.

That said, there are specific reasons why the Latin America category tops them all. In part, its position owes to the fact that concerns remain in other areas. For example, China’s market, while up this year, has been restrained somewhat by continuing worries about that country’s slowdown in growth, and perhaps by currency issues, internal unrest, and other factors unique to that nation. And though U.S. bank stocks have rebounded as investors’ economic fears have receded, pushing up returns in the financials category, some doubts about the banks’ prospects remain. Meanwhile, sentiment toward stocks in Brazil, by far the region’s biggest market, has benefited from a series of interest-rate cuts by that country’s central bank.

Another factor is boosting the portfolios of Latin America funds as well. The currencies of Brazil and Mexico, the countries that dominate the portfolios of Latin America funds, have risen sharply against the dollar this year. In addition, Petrobras PBR and Vale VALE, the Brazilian oil and mining companies, respectively, that play substantial roles in most of these portfolios, have each climbed more than 20% this year.

Limited Menu
Buying a fund just because its category is on the rise is never a good idea, of course. But there’s nothing wrong with taking a look. Unfortunately for those interested in putting a Latin America fund on their watch list, though, the pickings are slim.

To begin with, there aren’t many mutual funds to choose from. Although a tiny number of new entrants have appeared in recent years, even now there are only seven distinct funds that are not leveraged and that cover the whole region rather than just Brazil. Of those, three have been rated with the new Morningstar Analyst Ratings. Only one of them gets a positive rating, a Bronze received by BlackRock Latin America MDLTX. (That is a load fund.) The others with Morningstar Analyst Ratings, Fidelity Latin America FLATX and T. Rowe Price Latin America PRLAX, are no-load, but both receive ratings of Neutral. Premium subscribers can see the reasoning behind those evaluations by looking at the Morningstar Fund Analysis for each fund.

A fund that does not yet have an Analyst Rating, JPMorgan Latin America JLTAX, is worth keeping an eye on. It has outperformed so far, and is on track to have a solid five-year ranking when it hits that anniversary at the end of this month. (That too is a load fund.) However, its expense ratio, at 1.89% in 2011, is quite steep even by the standards of this costly category. Another offering without an Analyst Rating, DWS Latin America SLANX, has a longer history than the JPMorgan fund, but its manager turnover and unimpressive performance damps its appeal.

The other two mutual funds in the category that aren’t leveraged or devoted solely to Brazil are very young and very small: MFS Latin America and ES Latin America.

In addition, exchange-traded funds target the region, and their lower costs, if nothing else, should put them in the mix for interested investors. (There are no low-cost index-trackers available among the conventional mutual funds.) However, the menu is not extensive in the ETF universe, either. Although more than 20 ETFs focus on Latin America, the vast majority are single-country funds. Of the handful of ETFs offering broad regional coverage, Morningstar's ETF analysts prefer iShares S&P Latin America 40 ILF, which holds 40 of the largest Latin American stocks, and SPDR S&P Emerging Latin America GML, which has a slightly broader portfolio of more than 100 holdings.

Approach With Care
Take care before buying in this area. Besides the volatility inherent in any emerging-markets investment, most Latin America funds also are extremely concentrated by country, sinking as much as 80% to 90% of their assets into Brazil and Mexico. They’re often concentrated by security as well, with large weightings in the region’s favorites, such as Petrobras and America Movil AMX, the Mexican telecom firm.

The relative scarcity of choices, the volatility, and the concentration all make this category less than appealing overall. While sophisticated investors intent on the region can find a suitable choice to use in small doses, it’s best to be wary in approaching this group, no matter how enticing its returns may be.

Gregg Wolper is an editorial director and senior mutual-fund analyst at Morningstar.
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