Safe haven for investors: can oil revenues, corporate profits offset global fears, political tension?

The rise of Mexican equity prices this year has surprised even the most hardened emerging market traders and analysts.

The apparent reason--which no one in their right mind would have predicted--is the amazing surge in global oil prices. With U.S. oil futures touching US$55 per barrel in mid-October, Mexico's surplus oil revenue is now predicted to be somewhere in the neighborhood of US$6 billion.

The stock market sustained its overall strong performance on the back of a spontaneous late summer rally, but it is now starting to show signs of fatigue--the type of strain one sees in the eyes of a thoroughbred as it heads down the back stretch of a tough race.

There is still hope in the minds of many market players for yet another kick to the finish line. Market insiders tell me the source of such hope is international stock investors who have traditionally stepped into the market to window dress their existing portfolios. And with interest rates still relatively low, there is plenty of cash sitting around in mutual funds looking for a new home.

As one trader put it: "It's a win-win situation." In an excited market such as Mexico's, some money managers might reach the conclusion that investing in the Bolsa may yet yield positive returns (though mostly for reasons of momentum). Yet if, as the market began to reveal in mid-October, traders continue taking profits, the same money managers can write off the tax loss.

Fundamentally, as we mentioned in last month's column, the "Mexico Story" still seems intact. With surplus petrodollars being transferred to infrastructure projects throughout Mexico, expectations of a better than expected third-quarter earning season just ahead and a rash of corporate debt restructuring during the first nine months of the year, the story indeed seems to be rolling along just fine.

OIL, OIL, OIL

There is, however, the ugly side of soaring oil prices. World markets and governments are terribly nervous. Inflation, prodded by oil prices, is threatening to rear its unsightly head.

But the market seems evenly split when attempting to explain the reasons for heated oil prices. Is it a natural consequence of supply and demand? Or is it an unnatural result of war-driven fear of supply disruptions?

The strong correlation between high oil prices and weak equity markets, which has troubled so many world markets, has not affected the Bolsa so far this year.

As one analyst put it: "What has sustained Mexican asset prices this year is not so much the double-edged sword of high oil prices, but a sturdy fundamental performance by corporate Mexico." The recent Cemex purchase of Britain's RMC group for US$4.2 billion, though viewed as expensive, helped bolster the notion that Mexican corporate management is increasingly and successfully stretching beyond its borders.

Rising commodity prices, propelled by Asian demand, have pushed the right buttons for many local corporations. Hylsamex recently indicated strong numbers for the remainder of the year on the back of strong steel prices. Grupo Mexico--the world's No. 3 copper producer--has seen its stock price up over 55 percent this year.

But beware, the fruit is ripe for picking. With so many liquid blue chips up strongly this year, the temptation to capture profits will be difficult to resist. Additionally, recent political tensions among the three leading parties reminds investors on both sides of the border that peace and harmony may not be so easily attainable, despite strong oil revenues and corporate profits.

Though it may sound dubious to many believers of the "Mexico Story," there is a gradual swelling of fear that finds its roots on both the Mexican and U.S. sides of the Rio Bravo. The current status of world affairs is sowing doubts for future economic growth.

Meanwhile, in downtown Mexico City, political turmoil is heating up, as evidenced by the recent takeovers of Congress, which reinforces the pessimism regarding much-needed legislative reforms.

Buyer beware.

Ramon W. Ruiz is a freelance writer who worked in the Mexican financial sector for 13 years.