Among the Latin American countries, Argentina, with its high inflation and capital restrictions, is arguably the most problematic investment prospect for investors, as Gail Moss finds
In the family of Latin American nations, Argentina is the brilliant but wilful teenager who refuses to learn the lessons that experience has drummed into their less colourful siblings.
Once again, the problem is inflation - currently assumed higher than 20%, though official sources quote much lower figures.
And with rocketing public spending (including subsidies on utility prices), plus a trade surplus and central bank reserves which are both dwindling, another recession could be just around the corner.
But for voters, the danger has been masked by the eccentric policies which swept Argentina's centre-left president Cristina Fernandez to a second term in office last October.
Since Argentina devalued the peso and defaulted on $100bn (€78bn) of debt in 2001, Fernandez and her predecessor, the late Nestor Kirchner (who was also her husband), have gone on a public spending spree to create more jobs and higher pensions.
So far, these have been partially funded by the continuing high prices for soya beans, one of the country's major exports.
But how sustainable these policies are in a global slowdown will determine the country's future as an investment market.
Argentina was demoted from the MSCI Emerging Markets index to the MSCI Frontier Markets index in May 2009, as a result of the continued restrictions to inflows and outflows of capital in the Argentinian equity market.
"It's a market we're avoiding," says Urban Larson, director, emerging equities, F&C Asset Management in London. "The economy has been stronger than people thought it would be. But the government has no credibility with investors."
Larson notes that the government has been using reserves to prop up the economy and pay down debt.
"As long as soya bean prices stay high, they're fine, but what happens if prices fall?" he asks.
"We got out 10 years ago," says Julian Thompson, head of global emerging markets, at UK-based AXA Framlington. "At that stage, Argentina realised it couldn't spend its way out of debt, so it got out of jail by devaluing the currency and defaulting on the debt. This time around, it's living off old capital and there's very little reinvestment going on, because anything put in gets eroded by inflation."
"There is no strong argument for investing in Argentina at the moment," says Carlos de Leon, analyst and portfolio manager of RCM's global emerging markets team. "The increased risk of capital controls to limit outflows of foreign exchange has created nervousness."
However, some intrepid investors have gone back into the market over recent years.
"As value investors, we like Argentina because it is oversold and undervalued," says James Smith, head of global funds, Ignis Asset Management. "So we think there are good opportunities there. The companies we invest in also have favourable cash flows."
The MERVAL market index in Buenos Aires fell by a third between January and end-November last year. As at that date, P/E ratios for the handful of stocks in the index ranged from 4.8 to 10.2, with an average of 7.2 times on a forward basis.
Nevertheless, the fear that inflation could get out of control is a real threat.
"There is a possibility that President Fernandez could do something radical, which would cause uncertainty," says Smith. "And, if the global financial crisis deteriorates further, foreign investors could panic and send the markets into a tailspin. But we don't expect a double-dip recession globally and we see real value in the market at current prices."
He adds: "We are long-term investors and if we're in a market, so long as the data support it, we will keep on buying."
"The recent election meant that Fernandez stays on for four more years, and that continuity is very important," concedes de Leon. "In Argentina, the president exercises a lot of power and that means strong government. But the government needs to become less interventionist."
And he warns that this year, economic growth is expected to drop off sharply.
"In 2011, it was around 7%," he says. "This year it is estimated at 4%. While that's still good, 300bp is a significant drop. And in a slowdown, corporate earnings will come under pressure."
According to Marina Dal Poggetto, director of economists Bein & Asociados, the Argentine government will not be able to continue with the same policies if the current account surplus were to disappear and capital outflows start to damage reserves. She says they need to reduce the upward trajectory of the amounts in the latest prices and wages agreement.
"At the same time they should reduce government spending increases from 35% in 2011 to 18-20% this year, allowing utility prices to increase, and thereby reducing subsidies," she says. "And they need to maintain higher interest rates. If they can do all that, they can limit currency movements to only 12%, and the economy could continue growing at 3% to 4%."
But if the government cannot follow that strategy, she says capital outflows will continue to drain reserves and at some point, will push up the exchange rate, possibly as high as ARS5.50 to the US dollar by August.
"In that scenario, the economy would not grow, although imports would fall, supporting the current account surplus," says Dal Poggetta. "It would help protect against a debt crisis but would be bad for the economy."
She concludes: "The government has been signalling that it does not want to move the exchange rate, so we expect them to go for the first strategy, which we think is better. And keeping leverage low allows them to get more financing if necessary later this year."