What Jumps Out : Petro - State of the Nation

This blog/note isn't so much to reflect on the first month of the Petro Presidency but instead to get our arms around where Colombia is both politically and econically, the impact?on the markets and finally advances we are seeing within the capital markets.?

Firstly it would be obtuse to ignore the concerns of many ahead of the August 7 inauguration of Gustavo Petro. Colombia has never had a left leading President and with so many sub standard examples over the past two decades around Latin America - trees were shaking.?But, it would?be fair to say that the appointments for both the cabinet?and other executive positions have calmed a lot of nerves, this is because Petro needs cross bench support to get anything done.?Equally, to balance the conversation, the new Minister of Energy and Mining, is keeping that sector on its toes from day one - a greener Colombia is coming.?

The most recent opinion poll, even though we are still deep into the honeymoon period reads well for Petro, he thus far has a 69% approval level.?The poll conducted by Semana/CNC also favours many of his appointments and policy proposals. One somewhat paradoxical outcome was that the most popular policy was the greening of the energy sector (77%) but the person who is leading the aforementioned Ministry, Irene Velez, is the least popular cabinet choice with just 45% support.

In terms of policy there are three?areas to highlight :

Tax Reform?: The big elephant in a very small room is the tax reform that Petro set before Congress on day one.?As per all tax bills seen over recent decades, the final document will look very different to the one currently being considered?- in 2019 it was rejected, cost FinMin Carrasquilla his job and Colombia its Investment Grade.?The increase in income tax for those earning above $2500 per month is perhaps the least contentious component?but other areas, the usual suspects,?such as sugary drinks, dividends, tax free zones will be the subject of hours of debate. Also it is nothing new to hear every sector and?confederation saying that they support a reform, but that others should pay, not them.?Amidst these complaints there is also a singular lack of alternatives being offered - again nothing new. The simple fact is that Colombia has a gaping deficit and the Government needs to find money from somewhere.?

Oil Sector?: Whilst we have a new minister who has made it clear that she seeks a more sustainable energy sector, a lot of the early fears have not come to pass.?No-one has turned off the taps, overall July exports were the highest on record and oil was a large part of that. There has however been a lot of confusion and that continues to impact the oil sector.?Petro has stated that he will offer no new exploration licences while he is President - this sounds concerning to many but the reality is that there are around 180 live licences in Colombia and there are no more than ~10 performations in a given calendar year.?On top of that - there is NO big gusher sitting underneath the soil, those days are gone. The problem that needs to be addressed and clarified for investors is that 'exploration' and 'production' are seperate matters - especially when there is years long backlog of licences yet to explored.

Agriculture?:?New FinMin Ocampo has commented extensively on the need to develop the countryside - and he is right.?Of the ~30 million workable?hectares in Colombia ~4 million are in use. In arguably the world's best growing climate this is must do and needs to be right at the top of the Petro economic calendar.?There are millions of people living in rural areas who would seek that employment but who don't have access to land - Ocampo intends to make that change.

The Economy?:

GDP is running hot, estimates are around 6.5-7.0% for 2022 - well above any other real economy in Latam?(Venezuela not included) - and 2023 will see continued growth but at a far more modest level. BUT the impact on inflation and interest rates has been dramatic.?CPI for August stood at 10.84% - the highest reading of the 21st century,?and we may not be finished yet. Interest rates have tripled to 9% in 2022 and are at their highest level since 2009. The expectation in the last round of surveys was for a 10% terminal rate but with CPI at 10.84% - bets may be off.

In terms of inflation and interest rates, its case of copy/paste for many countires around the world and much of the problem is out of the control of Colombia.?Energy costs are up and food inflation was at 1.85% MoM in August - much of this is imported and the local authorities are restricted in what they can do.

As mentioned?July Exports were an all time record?driven by coal and oil, which given a Peso above $4000 is healthy enough BUT?Imports have also been hitting record levels?which reflects strong domestic demand, however that same weak Peso is pushing?prices upwards. Sticking with the Peso, there is little the authorities can do -?the dollar globally is battering currencies and the Central Bank has already ruled out any action,?rightfully so given the power of the dollar currently, it would literally be a waste of money.?

Markets : Where this robust economy has not been reflected, is in the equity market -?the COLCAP is spectaculaly underperforming countries such as Chile and Brazil, despite the fact that they are growing at a much slower pace and have an equally complicated political situation. YTD the COLCAP is down 13.3% (21% total return) - valuations are low and yet, foreigners are reluctant to invest. The 'political' argument or?the loss of Investment Grade or any other for that matter, goes out of the window because the same?overseas portfolio managers can't invest money fast enough into the TES bond market - the August inflow number of $1.3bn was an all time record....its a case of 'go figure' although the liquidity argument remains a solid one.

bvc : Many headlines have been reserved for the eventual merger with Chile and Peru?however that is still some way down the road so in the meantime in Bogota the market continues to push into new products.

The MGC (Global Market)?whilst still minute next to Mexico or Argentina has grown enormously - there is still work to do BUT this is as big a part of the future equity market as the blue chip names that everybody knows.

The first REIT has been listed on the equity market?- PEI (AUM $2bn) is now freely tradable and will be joined by other similar assets, including from overseas, in the forthcoming weeks and months.?

The next development, which is lacking only a signature, will be Fixed Income ETF?on the equity board - again this will attract a lot of attention.?

So to resume :

Petro hasn't arrived and demanded to rule by decree, as many speaculated, he has inherited an economy in such rude health, it needs to be reined in and cooled down.?There have been no declarations regarding oil production but it would be useful,?on the contrary he has made it clear that his reforms need commodity revenues - he has in fact asked for more a more efficent and green energy production.?The tax reform is up in the air and will be subject to Congressional surgery?over the coming months - after that we will see where we are.

In terms of the markets -?the Peso is out of the control of local authorities?but?foreigners are showing?strong confidence in the TES bond market - as to the COLCAP, its hard to explain the disconnect but at bvc we are looking to bring more and more investment options to both local and international investors.