Author: Hedge Insider

VIOV – VIOV: Small-Cap Value Stocks Are Cheap

Small Cap write on sticky notes isolated on Office Desk. Stock market concept

syahrir maulana

Vanguard S&P Small Cap 600 Value ETF (NYSEARCA:VIOV) is an exchange-traded fund that provides investors with exposure to so-called small-cap value stocks. The fund invests in accord with the S&P SmallCap 600 Value Index, which as of


Author’s Calculations

U.S. Business Cycle Positioning

VIOV Sector Exposures

IVE – IVE: A Value-Oriented Large-Cap Fund Trading At A Discount

stack of silver coins with trading chart in financial concepts and financial investment business stock growth

Sakorn Sukkasemsakorn

The iShares S&P 500 Value ETF (NYSEARCA:IVE) is an exchange-traded fund that provides investors with exposure to large U.S. companies that are potentially undervalued relative to comparable companies. IVE’s benchmark is the S&P 500(R) Value


IVE Conservative Projection

Author’s Calculations

MXI – MXI: Global Materials Stocks Are Trading At A Discount

Young industry employees checking production line in wire warehouse

serts/E+ via Getty Images

iShares Global Materials ETF (NYSEARCA:MXI) is an exchange-traded fund that provides investors with exposure to companies engaged in the production of raw materials, such as metals, chemicals, and forestry products. I last covered the fund in


Author’s Calculations

Business Cycle Positioning as of Q1 2023

XHE – XHE: Health Care Equipment Stocks Are Overvalued On Low Quality Earnings

Physical therapist gestures while asking woman questions about injury

SDI Productions

SPDR S&P Health Care Equipment ETF (NYSEARCA:XHE) is an exchange-traded fund that provides investors with exposure to health care stocks, specifically stocks whose underlying companies/businesses operate in the health care equipment space.

The last time I covered


Author’s Calculations

XHE ETF IRR Gauge with Adjusted Operating Earnings

Author’s Calculations

EFG – EFG: International Growth Stocks Are Undervalued

Flying over USA at night with city light illumination. View from space. 3D render


iShares MSCI EAFE Growth ETF (BATS:EFG) is an exchange-traded fund that provides investors with exposure to a broad range of companies across Europe, Australia, Asia, and the Far East, whose earnings are also anticipated to grow at an above-average rate. The fund


Author’s Calculations

EFG ETF Net Fund Flows

EIS – EIS: Israeli Equities Offer Strong Returns And Further Upside On Valuation

Jerusalem cityscape panorama

Jonathan Ross/iStock via Getty Images

iShares MSCI Israel ETF (NYSEARCA:EIS) is an exchange-traded fund that provides investors with exposure to Israeli equities. The fund carries an expense ratio of 0.58%, and it was launched on March 26, 2008. The fund remains relatively unpopular, with

EIS Net Fund Flows

EIS Key Sector Exposures


Author’s Calculations

Israel Current Account

EWY – EWY: South Korean Equities Could Outperform U.S. Equities As The Global Economy Rebounds

The iShares MSCI South Korea ETF (NYSEARCA:EWY) enables investors, predominantly U.S. investors, to purchase targeted exposure to large- and mid-sized companies in South Korea. Listed on the NYSE Arca exchange, the price of EWF shares is denominated in U.S. dollars. EWF’s portfolio is wholly concentrated in South Korea (excluding the fund’s minor cash and/or derivatives balance). The expense ratio of the fund is 0.59%; while more expensive than popular U.S. trackers, this expense ratio is reasonable for funds of this nature.

South Korea is not the most obvious place to invest. The geographically challenged among us might even struggle to find the country on a map. Yet South Korean export and trade data has historically been used as a leading indicator of the global economy. Informed investors have looked to South Korea for indications of cyclical turns in the global macro economy, even if not to invest in South Korea itself.

International trade is important to South Korea. Since the turn of the century, South Korea’s current account has been positive on an annual basis, fluctuating between 0.3% and 7.7% of the country’s GDP (on average: just over 3%).

South Korean Current Account to GDP Ratio(Source: Trading Economics. South Korean Current Account Surplus to GDP.)

The most recent annual reading for 2019 was 3.7%. The chart above illustrates how this ratio fell from 2004 into the 2008/09 crisis. We can also see that “this time around” that the ratio had already been falling since 2015. This year has been marked by one of the worst global economic contractions in history, no doubt largely brought about by the COVID-19 pandemic. However, based on the 2004-2008 lag time of the “indicator” above (the South Korean current account), we were perhaps due for a recession from 2019.

South Korea is essentially a beneficiary of globalization. When the world economy is healthy, South Korea is expected to benefit disproportionately. One might expect the opposite to be true, and yet South Korea has managed to outperform through more difficult periods too. For example, as illustrated by the chart below, the annual GDP growth rate in South Korea has outperformed the United States, not just through this year but also through 2008/09.

South Korean Growth vs. USA Growth(Source: World Bank. GDP growth; annual %.)

The meteoric rise in the economic significance of China this century has supported South Korea’s standing and performance. Key export destinations include China (the largest consumer of South Korean exports, at 25.9% in 2018) while other countries in the Asia-Pacific region have also helped to propel the South Korean economy forward. These include Vietnam, Hong Kong, Japan, and also to the West, the United States.

South Korean Export Partners in 2018(Source: OEC. Key export destinations, for South Korean exports, in 2018.)

The South Korean economy is sophisticated too. As ranked by the Organization of Economic Complexity (the source of the chart above, as referenced), South Korea ranks 5 out of 137 countries. Key products include integrated circuits, machinery, broadcasting equipment, cars, vehicle parts, passenger and cargo ships, refined petroleum, LCDs; the list is long and frankly impressive.

EWY, for reference, is heavily invested in Information Technology (34.85%), Consumer Discretionary (11.92%), and Financials (10.11%). Other key sectors include Materials, Communication, Industrials, Health Care, and Consumer Staples. EWY is actually rather nicely diversified, although there is admittedly a fair amount of concentration in technology and Consumer Discretionary. Still, if one wishes to bet on a global economic rebound (which is indeed a rather good bet in the long term), EWY’s sector concentrations seem attractive.

EWY Sector Concentrations(Source:

Technology tends to do well early on in the business cycle and even throughout while global growth is positive and risk sentiment generally remains in positive territory. Consumer Discretionary stocks also tend to outperform Staples during global economic rebounds, as consumer confidence returns. South Korea’s key export partners being largely based in Asia-Pacific also strengthens the case for funds such as EWY; that is, considering China has managed to avert a significant fall in GDP this year (indeed, year-over-year growth was positive at 4.9% in Q3 2020).

South Korea is a manufacturing beast and well-positioned geographically and politically. While South Korea has historically been viewed as an emerging market, this view is becoming increasingly difficult to justify. If we look at GDP per capita (adjusted for Purchasing Power Parity), we can see that South Korea is not too far away from the United Kingdom, and the gap has been gradually closing.

South Korean GDP per Capita (PPP-adjusted)(Source: World Bank. GDP per capita, PPP; current international $.)

South Korea, at least in my opinion, deserves to be considered a developed economy. Further, the country demonstrates the potential to outperform slower-growth nations, including the West (in turn, including both Europe and the United States).

KRW (the South Korean won) has also managed to avert a significant sell-off this year against major currencies. The won is up against the U.S. dollar, though modestly down against the euro. Strong economic resilience, coupled with relative political stability and a positive current account, would conventionally lend support to a country’s “safe-haven” status in the FX world. Yet unlike Japan (whose yen is conventionally considered a safe haven for these reasons), South Korea is fast-growing. Japan has been plagued by low inflation, low interest rates, and low growth for years, not South Korea.

KRW/USD and KRW/EUR(Source: TradingView)

KRW/USD and KRW/EUR are pictured above, although these crosses are typically presented as USD/KRW and EUR/KRW. The current rate for USD/KRW is 1,104 (as of the close of November 27, 2020) as compared to the price at the start of 2020 of 1,154 (i.e., USD is over 4% weaker YTD). Could KRW strengthen further? In the chart below, I use the OECD’s PPP model to estimate the fair value of USD/KRW through 2019 (the latest data point).

USD/KRW Fair Value <span class='ticker-hover-wrapper'>(NYSE:<a href='' title='Primero Mining Corp. New Ordinary Shares'>PPP</a>)</span>(Sources: OECD and

Fair value, per this model, was estimated at circa 860 in 2019. The chart reveals that USD/KRW has generally languished following the past two significant U.S. recessions this century (after an initial spike, which has possibly already occurred this year, through March 2020). The two recessions I refer to were in the early 2000s and the Great Recession of 2008/09. While we are here, it is worth additionally exploring EUR/KRW, using the same model.

EUR/KRW PPP Fair Value Model(EUR/KRW data sourced from

We can see that EUR/KRW is likely trading at close to fair value, although one might suspect that the tailwind here is still in favor of further KRW strength (i.e., EUR/KRW weakness). That is especially true provided that South Korea does indeed continue to outperform generally low real growth in Europe (which has been mired by negative rates for years, even pre-pandemic).

For good measure, an alternative PPP model is the Big Mac Index (by The Economist). This model looks at the price of a homogenous product in different geographies, a McDonald’s Big Mac, and uses this single price to gauge where the currencies in question “should” be trading by implication. The raw index suggests that the won is undervalued by 34% against USD per the July 2020 index value and 22% undervalued against EUR. The Economist also adjusts for GDP per capita, which helps to reflect differences in local purchasing power. Adjusted valuations still place the won at discounts to the USD and EUR of 15% and 16%, respectively (compared to our OECD model of 22% and 35%).

In short, the won is probably undervalued on the basis of purchasing power parity. EWY could therefore stand to further benefit U.S. shareholders, as there is possibly an FX tailwind to enjoy over the coming months and years. With EWY’s exposure to sectors that are likely to outperform early on in the cycle, and with South Korea likely to continue to outperform (with their technological sophistication placing to benefit not only from further Chinese GDP growth but also from the increasingly “tech-enabled” world, via exports), EWY looks attractive from an international perspective.

The 12-month trailing yield is also circa 2%. With dividends reinvested, the fund is well-positioned to outperform more conventional equity trackers. At the very least, EWY presents an appealing option to achieve further international diversification within a wider equity portfolio.

As shown in the chart below, EWY has outperformed SPDR S&P 500 ETF (NYSEARCA:SPY) this year (the latter being a popular U.S. equity tracker). This is illustrated by the shaded box. However, since mid-2011, EWY has underperformed SPY. From 2020, we might possibly be looking at a turn of this possibly cyclical relationship.


Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

EWC – EWC: Canadian Equities Look Promising Into The Next Business Cycle

iShares MSCI Canada ETF (EWC) is an exchange-traded fund that has been constructed to enable predominantly U.S. investors to get direct exposure to large and mid-sized companies in Canada that trade as equities. EWC can be used to express a view on Canada and Canadian business specifically.

EWC is denominated in U.S. dollars, and trades on the NYSE Arca exchange. The 12-month trailing yield, which is calculated by dividing all income distributions over the past twelve months into the most recent NAV, was 2.47% as of October 30, 2020. The expense ratio is 0.49% as stated in the prospectus (annual management fee).

As of November 19, 2020, the holdings within EWC are primarily geared towards the Financials (36.94%), Materials (12.53%), and Energy (12.40%) sectors, closely followed by Information Technology and Industrials. Other important sectors include Consumer Staples, Consumer Discretionary, Utilities, and Communication. The chart below illustrates this breakdown.

EWC Portfolio Breakdown by Sector(Source:

The exposure to Financials is rather stark, and perhaps unexpected for many people who do not peruse EWC and simply view it as a more holistic ETF. The Financials stocks include Royal Bank of Canada (7.71% of the entire portfolio), Toronto Dominion (6.44%), Bank of Nova Scotia (3.95%), Brookfield Asset Management (3.71%), and Bank of Montreal (3.08%), among others.

This is not necessarily all bad, which I will explain shortly, however it has been a rather poor portfolio construction for 2020. Canada has been hit hard with oil prices crashing this year, in light of the COVID-19 crisis and ensuing economic crisis. The Department of Natural Resources Canada confirms that, historically, the Energy sector has contributed over 10% to overall nominal GDP, with 5.3% of the direct portion (being 7.2% in total) coming from petroleum. The chart below illustrates this.

Energy Sector Contribution to Canadian Nominal GDP(Source:

This large sliver would lend to there being a reasonably positive correlation between benchmark oil prices and the price of the EWC ETF. In the chart below, we chart these. Note that stronger oil prices correlate with equities as an asset class in general, especially equities that are also denominated in U.S. dollars (West Texas Intermediate, conventionally denominated in USD, I use as a benchmark via the front-month Crude Oil futures contract). EWC is illustrated by the red line; Crude Oil futures are illustrated by the black line

EWC vs. Crude Oil Futures Prices(Source: TradingView. The same applies to price charts presented hereafter.)

While global oil prices are not the only important factor to EWC, the strong positive correlation is important to monitor, and it would appear that oil prices can sometimes serve as a leading indicator. For example, the crash in early 2020 (also shown in the chart above) in EWC proceeded from a drop in oil prices.

As noted, EWC has significant exposure to the Financials sector. Low interest rates across the developed world have eroded commercial bank profit margins. This has provided the broader sector with a fairly strong “headwind”. In turn, this has helped to inhibit EWC upside. Nevertheless, recently euphoric responses across asset classes to vaccine developments from Pfizer and Moderna has strengthened banks, as markets have priced in stronger long-term government bond yields (i.e., there is renewed hope in long-term rate hikes). Another correlator with EWC is, therefore, the 10-year Canadian bond yield (as shown below).

EWC vs. 10-year Canadian Bond YieldAs with oil prices, it would appear that the 10-year Canadian bond yield may serve as a leading indicator. While stocks (including the EWC ETF) have rallied recently, the Canadian 10-year has risen more recently (i.e., the yield has fallen). This provides me with a strong suspicion that EWC will struggle to sustain its most recent upside, and this might apply more broadly against other indexes (even in the United States and abroad). The bond market is thought to be one of the “smarter” markets, more conservative than the equity markets, and as such, I would look to these tightened yields (after the recent rise) as a warning indicator. This is however not necessarily specific to EWC.

If yields can firm up, and preferably continue to rise, EWC could see further upside. However, it would look like it has already overshot, so to me, this prospect does not present as particularly bullish. Naturally, with yields much lower than they were in previous years, the positive correlation is less clear. However, yields will still remain relevant going forward (directionally speaking). This brings me back to the exposure of EWC to Financials, which might not be “all that bad”, once a new business cycle asserts itself.

We are currently no doubt in a recessionary environment. Nevertheless, once a new business cycle establishes itself (at least in North America), it is often the Financials sector that outperforms. Higher interest rates and less bad debts, with still-low deposit rates, is constructive for banks. Asset management firms also benefit from rising equity prices and risk-on activity. This is supported by Fidelity International, which has conducted a lot of research in this space of investing in accordance with the business cycle. The chart below from Fidelity shows that sectors including Financials, Industrials, and Information Technology, Materials (among others) tend to out-perform early on in the business cycle. These are four of five of EWC’s top sector exposures.

Business Cycle Sector Chart (Source: Fidelity)

What’s more, it is natural for a country (including Canada) to perform well (in equity markets) from the early stage of the business cycle as opposed to the late-stage or recessionary stage. Fidelity publishes business cycle updates for numerous countries; the chart below illustrates Canada’s position is in the early stage alongside the United States and others.

Fidelity Business Cycle Update(Source: Fidelity)

In other words, EWC is a reasonably perfect fit for an early-stage comeback. However, global oil prices and yields remain constrained, and history does not always repeat. These are factors that one should consider carefully before going “long Canada”. Still, if history rhymes, EWC looks interesting.

The exchange rate is another factor and another correlator. I recently examined Mexican equities through the lens of iShares MSCI Mexico ETF (EWW). I noticed that EWW was, in some respects, a derivative trade on the value of the Mexican peso in terms of U.S. dollars. When USD/MXN falls, EWW is much more likely to rise. In other words, EWW (the investment vehicle for Mexican equities) rises in value when the peso rises in value and vice versa. If the same relationship holds between USD/CAD and EWC, we would expect a similar inverse correlation between them, and we would also naturally then need to monitor CAD from the perspective of the U.S. dollar.

The chart below maps EWC against the USD/CAD exchange rate from the start of 2017. The correlation does indeed look negative.

EWC vs. USD/CAD Exchange RateTo make this clearer, I invert the far-right y-axis (i.e., USD/CAD) to place more focus on the positive correlation between EWC and CAD (or CAD/USD, to be specific).

EWC vs. CAD/USDThe correlation is established. Therefore, where might USD/CAD be traveling next? Exchanges are tough to predict, but we can at least make a start by assessing USD/CAD in relation to its fair value as implied by the OECD’s PPP model. PPP (Purchasing Power Parity) models enable us to find an implied fair value based on the relative international purchasing powers of different countries.

USD/CAD Purchasing Power Parity Fair Value in 2020

(Sources: and OECD)

The chart above indicates that the most recent fair value estimate (for 2019) is still fairly significantly below the prevailing market price and that USD/CAD has historically been able to achieve both premiums and discounts to its fair value estimate. The 2019 fair value estimate is at 1.19. The upper and lower bands I have added to the chart above represent 30% deviations to the rolling annual PPP figure. Following the crash into 2008, USD rallied, but not too far beyond the fair value estimate. USD/CAD, after the initial rally, then fell back down below where the pair previously traded (prior to the rally in 2008/09).

I think we may see a similar repeat. USD/CAD is now trading back down below its 2020 rally high (at the 1.45 handle); it is now trading just below the 1.31 handle, as compared to the 2020 opening price just under the 1.30 handle. Further downside is still possible. It is however worth checking with an alternative model. The Economist’s Big Mac Index is worth checking; it is based on a comparison of a largely homogenous product (in this case a McDonald’s Big Mac). The beauty of the Big Mac Index stems from both its simplicity and its optional adjustment for GDP per capita, which enables us to get an adjusted figure based on differences in per capita output (countries with lower GDP per capita “should” price Big Macs at lower prices).

The standard Big Mac index suggests USD/CAD is undervalued 11% on a raw index basis (as compared to our OECD model of about 10%). The GDP-adjusted assessment indicates that CAD is in fact overvalued by 2%.

USD/CAD Fair Value (Big Mac Index)(Source: The Economist)

In other words, USD/CAD is probably very close to fair value, but the current direction would probably support a stronger Canadian dollar. Perhaps at the very least, we might be able to feel “safe” from significant FX volatility. For EWC holders, the worst outcome would be for USD/CAD to rally aggressively, as it did earlier this year (before falling back down). Put another way, CAD/USD will need to remain at least steady for most EWC holders whose purchasing power is expressed in USD. The chart below indicates that CAD/USD recently almost hit the January 2016 low of 0.6807, but has since clipped its “pre-COVID” high of 0.7721.

CAD/USD Exchange RateI do not personally see a long-term bear market in the Canadian dollar, especially if we can look to the possibility of an economic rebound (starting from the first phase of the next/current business cycle). For example, if we look back to our OECD PPP model chart, we notice that USD/CAD collapsed following the early 2000s, which was marked by a recessionary phase. While we should not expect a similarly dramatic fall, it is possible that CAD’s prospects are starting to look rosier going forward.

EWC is one fund that affords investors the opportunity for direct exposure to Canadian equities, and I think that Canadian equities are worth considering at this juncture, as a long-term investment. Canada deserves some allocation in a wider portfolio. However, in light of low rates and tepid oil prices, a non-aggressive approach should be taken in any case.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

EWW – EWW: Mexican Equities Still Look Unattractive As Domestic Sentiment Remains Weak

iShares MSCI Mexico ETF (EWW) provides investors with direct, targeted exposure to a broad range of Mexican companies; the ETF seeks to track the investment results of a broad-based index of Mexican equities. The fund is rather diversified, although the largest allocations are as shown below; America Movil L (AMXL) is weighted at 16.60% of the fund, while Walmart de Mexico V (WALMEX) and FEMSA (FEMSAUBD), which are consumer staples stocks, together represent 18.87% of the fund. Other large allocations are made to companies in the sectors of Financials, Materials, and Industrials.

EWW Portfolio as at November 13, 2020(Source: The same applies to the sector breakdown; see below.)

For good measure, I present the chart below which illustrates the fund’s exposure to various sectors. In aggregate, Consumer Staples takes the lead, followed by Communication, Materials, Financials, and Industrials.

EWW Fund Sector ExposuresWith Consumer Staples and Communication being “front and center”, representing over 50% of the fund by their combined weighting, EWW is not only ‘long Mexico’ but ‘long the Mexican consumer’. Arguably this is the case for all geographic funds since consumers are typically the backbone of any economy (the constituents of aggregate demand being consumer spending, investment, government spending, and exports net of imports).

The Mexican consumer finds themselves in a particularly unequal society. The Gini coefficient, which is a measure of the dispersion of income (or sometimes wealth) within a nation, was recorded as being 0.46 for Mexico in 2016. This was behind only Chile, Costa Rica, and South Africa (see chart below from the OECD).

Mexican Gini Coefficient(Source: OECD)

A reading of 1 indicates complete inequality, as shown above; 0 would be complete equality. Anything over 0.50 is generally considered extreme. The most unequal societies are usually less developed economies, although Hong Kong is one exception (estimated at roughly 0.54 in 2016). Economies such as the United States are not too far behind Mexico. The U.S. registered a reading of 0.39 in 2017 for instance.

Very unequal societies have implications for the health of the consumer. It is unlikely that an economy will out-perform others unless the consumer, the backbone of all modern and developed economies, is fundamentally healthy (and ideally wealthy; consumer spending tends to fall when household wealth falls, which is unsurprising).

In Mexico, the median disposable income (current prices) was 57,571 Mexican pesos in 2016 (source: OECD). In 2016, the USD/MXN exchange rate was circa 19 (say, on average), which would indicate a median disposable income of $3,030 in USD terms. GDP per capita was roughly $8,740 in that same year (source: World Bank). We can therefore divide the former into the latter, to find a ratio of approximately 35% (just over a third). This serves as an alternative measure of inequality in a sense; the stronger it is, the more powerful the consumer is. The median is more important than the mean.

The same measure for the U.S. is calculated by taking the $35,600 median disposable income in the U.S. for 2017 (the most recent measure, per OECD data as referenced in the above paragraph), and dividing this into the 2017 figure for GDP per capita of $59,928 (World Bank data). The ratio here is over 59%, which indicates a ‘favorable delta’ (for the U.S., at least) of a full 24 percentage points. In other words, Mexico is certainly more unequal than the U.S. (judging by median disposable income relative to GDP per capita, as well as the Gini coefficient), and the Mexican consumer is, therefore, less well off.

GDP per capita, adjusted for Purchasing Power Parity (current international $), has also increased more rapidly in the United States versus Mexico (see below) since 1990.

United States vs. Mexico: GDP per Capital (PPP-adjusted)(Source: World Bank)

The U.S. has surged by 2.73x over this timeline, whereas Mexico has risen by 2.53x over this period, which is not particularly impressive given Mexico’s emerging market status.

However, it is not all bad. Mexico does seem to have a few demographical advantages. Generally speaking, a younger, faster-growing population presents a more propitious long-term investment opportunity than an older, slow-growing population (such as Japan, which has been characterized as such, with low long-term growth, inflation, and interest rates).

Per CIA data, the median age in Mexico is 29.3 (last data available), as compared to the United States’ median age of 38.5. Meanwhile, per World Bank data, the Mexican population grew by 1.1% in 2019, as compared to U.S. population growth of just 0.5% in that same year (it is noteworthy that the growth rate in both cases has declined considerably over time, however, although this is a worldwide trend).

Returning back to EWW: the fund has existed since 1996. A popular ETF for tracking U.S. equities is SPDR S&P 500 ETF Trust (SPY). The chart below maps the ratio between EWW and SPY; i.e., a rising ratio indicates out-performance and vice versa. As international capital flows seem to often follow cycles over the long term, I also take the liberty of adding lines to demarcate the prior low and prior high and illustrate that the long-term low of this measure (in 1998) has not quite (yet?) been reached in recent times.

EWW vs. SPY: Long-term Chart Since 1996(Source: TradingView. The same applies to price charts presented hereafter.)

Mexican equities, or at least EWW, have however clearly under-performed U.S. equities, or SPY in this case. This excludes dividends.

EWW has been far more volatile over this period than SPY though. The shape of the chart above seems to take its shape primarily as a function of EWW price action (see the EWW chart below).

EWW Price Action Since Inception of Fund in 1996EWW appears to have been in a bear market since the beginning of 2013. Timing the reversal is not likely to be easy, presuming that there will be a reversal. The recent upturn this year only follows a deep low than was achieved in Q1 2020, when global equities sold off in reaction to the COVID-19 pandemic and ensuing economic crisis. While EWW has rebounded significantly from the low, the fund is still trading well below the January 2020 opening price. As far as we are concerned, the long-term bear market remains intact.

In a recent article covering iShares MSCI Turkey ETF (TUR), I noted the importance of consumer and business confidence. The chart below shows both for Mexico since the early years of this century.

Mexican Consumer and Business Confidence(Source: Trading Economics)

The relationship between the two is clearly positive, as one would expect, although neither is a particularly good leading indicator of the other. They move in tandem, and both consumer confidence (blue line; left y-axis) and business confidence (black dotted line; right y-axis) indicate pessimism under the 50 mark. As shown, aside from recent optimism that was found briefly among consumers in 2018 and 2019, both Mexican consumers and businesses have been primarily pessimistic for years. Both readings have returned to either new lows or close to all-time lows in recent years.

As an emerging market, you might think that perhaps the economy has a strong current account. While EWW is primarily exposed to consumer businesses, a strong current account could indicate the potential for GDP out-performance and, indirectly, therefore a stronger consumer (possibly). However, this is just not the case; the Mexican current account has barely managed to achieve positive territory. It has at least achieved a surplus in a few recent quarters, but these appear exceptional.

Mexican Current Account(Source: Trading Economics)

A strong current account is what the majority of economies would prefer. Indeed, this is the problem that Switzerland is facing as I have discussed previously; the current account is what has led the Swiss National Bank to explore methods of CHF devaluation in rather creative and aggressive ways. Yet USD/MXN has generally trended upward over the years; a relatively weaker Mexican peso over the past decade has coincided with a mostly weak current account and, as we have seen, a lack of domestic confidence (and an under-performing equity market).

USD/MXN: Long-term Price ActionSince 2008, USD/MXN has risen from less than 11 MXN to as high as 25 MXN, although the pair has since fallen from its peak (this year) back down to the 20 handle. USD/MXN has the potential to weaken further (i.e., the peso could strengthen further) provided that Biden is augurated in January 2021. A Biden administration could possibly be constructive for Mexico, given the antagonism that Mexico has borne the brunt of during the Trump administration to date.

And yet, a stronger MXN is not positive for the country’s export competitiveness, nor is it positive for its equity market. While EWW is denominated in USD, its Mexican equity holdings are still affected by the exchange rate. The negative correlation between EWW (the red line) and USD/MXN (the black line) is illustrated in the chart below; indeed, EWW is almost a derivative FX trade.


Given the strong correlation here, it is worth considering the fair value of USD/MXN on a fair value basis. We can use the OECD’s Purchasing Power Parity model data to get an idea of this. I construct the chart below, which estimates the fair value of USD/MXN being roughly 9.31 MXN in 2019 (the last fair value estimate).

USD/MXN Fair Value (PPP Implied)(Sources: OECD and

The distance between the current market price and fair value is huge, suggesting a fall to “fair value” would support a surge in EWW. However, this is not quite a fair interpretation because, in the case of emerging markets such as Mexico (and you could also include countries like India here), it is important to make adjustments for GDP per capita. As The Economist explains:

The GDP-adjusted index addresses the criticism that you would expect average burger prices to be cheaper in poor countries than in rich ones because labour costs are lower.

Here, The Economist is referring to their GDP-adjusted Big Mac Index, which literally compares the prices of a McDonald’s Big Mac in different countries (considered to be a homogeneous product) to generate their own PPP model. In our OECD model, the peso is 54% undervalued. In the regular Big Mac Index, the peso is 61% undervalued (i.e., the models are roughly in harmony). However, adjusting for the GDP factor, the peso is “only” 33% undervalued.

MXN PPP Model (GDP-adjusted)(Source: The Economist)

This would still suggest that USD/MXN has plenty of further room to fall. If the “fair-value gap” was filled, USD/MXN would be trading below the 14 handle (if we assume the peso is trading at a discount of 33%).

A stronger peso would also be supported by inflation and interest rates. The official short-term Mexican interest rate is 4.25%, as compared to the U.S. short-term target of 0.00-0.25%, which offers a distinctly large yield in a world where all G10 FX rates are close to (or below) the so-called zero lower bound. Even with annual inflation running at circa 4.01% in October 2020, the real yield would still be positive at +0.24% (i.e., 4.25% minus 4.01%). This compares to the U.S. real yield of -0.95% to -1.20% (a negative real yield) based on the annual inflation rate of 1.20% in October 2020.

Having said all this, domestic confidence is low in Mexico, and this is likely the cause of the long-term under-performance of the Mexican economy, currency, and equity market. EWW does seem to present an opportunity from an FX perspective, but this should not be enough to justify being long since one could likely more economically trade this directly through an FX broker.

In summary, what I see here is the possibility of the Mexican peso strengthening further against the U.S. dollar, but I do not see much potential in an out-performance of Mexican equities. The sentiment is not there; the confidence is not there; and with a stronger peso, all the country’s macroeconomic indicators are likely to be even harder to support. Consumer sentiment and strength also particularly matters to the EWW fund considering its exposure to consumer-led industries. There may be an opportunity to buy into a Mexico tracker such as EWW in the long-term future, but the time does not appear to be now in my opinion, and timing is (almost) everything.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.