Why a ‘Gap Year’ Might Pave the Way for New Opportunity in Latin America

COVID-19 has put Latin American private investment into a ‘wait and see’ holding pattern, but 2021 could be a big year for international GPs, with the region’s largest investors primed to add private assets

Like many other areas of the global economy, COVID-19 didn’t create the economic problems in Latin America, it just accelerated them. In a similar story to the rest of the world, GDP growth in the region’s major economies dipped in 2019 compared with the previous year (see chart above). The pandemic, then, has compounded pre-existing problems, putting the brakes on an already challenged economic environment. Countries that were slower to respond to the pandemic’s onset and mismanaged their approach to COVID-19 may have dug themselves in a deeper hole than others. 

In private markets, though, the economic volatility magnified by COVID-19 has created a ‘wait and see’ scenario. Pre-pandemic regulatory changes afoot in some of the region’s largest economies may be setting the framework for greater private capital investment from outside GPs. Countries that previously shied away from investing outside their borders, particularly in alternatives, had begun opening up to these investments in the years leading up to the pandemic, and encouraging others to follow. This unique situation has created what some experts see as a ‘gap year’ for LPs in the region and the GPs, both local and global, looking to woo them. 

Mexico Playing Catch up
Investors in Mexico have become very aggressive in alternatives, following suit with peers in Colombia, Peru, and Chile. Leading the way is Mexico’s $200bn AFORES Pension System, a group of 10 private pension funds which manage the retirement accounts of their participants. 

We spoke to Bogotá-based private capital placement agent ROAM Capital, which has raised $4bn in capital commitments, about Mexico’s alternatives scene. Founder and CEO Philippe Stiernon believes the country is set for the most significant growth in Latin America. “I think over the next three to five years the bulk of the institutional flows will come from Mexico,” says Stiernon.

A Sleeping Giant in Brazil
The biggest pool of capital in Latin America is also its most cloistered. Regulators in Brazil have historically banned pensions from offshore illiquid investments, permitting private capital to only be deployed within the country’s borders. While offshore public equity investment is allowed, the illiquid nature of private capital creates too high a risk profile for regulators’ comfort. 

This situation has created a sort of “sleeping giant” for GPs, which see this pool of capital as major source of growth. Stiernon admits that “for international GPs, there’s not much hope that Brazilian pensions will be able to invest offshore in alternatives in the short term.” However, if and when the ban is lifted, ROAM sees a significant opportunity, perhaps 2-3x the size of commitments coming from Mexico, especially if interest rates in Brazil remain low. Yet, Brazil still represents a very robust family office market. 

Boom or Bust in Colombia, Chile, and Peru 
Colombia and Chile offer contrasting opportunities for GPs looking to attract large investors. Colombia’s landscape is characterized by few sizable institutions – four major pension funds, two of which, Porvenir and Proteccion, are significantly larger than the others at about $30bn each. Chile’s is larger in terms of assets and number of pensions, but the average ticket sizes are considerably smaller. This has created a sort of ‘boom or bust’ scenario for GPs in these countries. ROAM notes that commitment sizes have been generally much larger in Colombia ($100mn+), while those from Chile’s broader opportunity set are typically between $40mn and $60mn. 

Peru has also become an important fundraising destination for international GPs given their strong appetite for offshore alternative investments. However, 2020 and 2021 will prove to be difficult years, given recent regulatory changes that have allowed pensioners to withdraw up to 25% of the cumulative contributions, resulting in smaller ticket sizes and decreased dry powder. 

Regulators on Your Side
Regulatory changes are aimed at modernizing institutional investment in Latin America, particularly for pension funds, and have created a tailwind in many countries. 

In Colombia, for example, new regulation has helped investors to expand their alternatives portfolios and diversify beyond their current boundaries. Historically, Colombian pension funds have been allowed to allocate up to 20-25% of their assets to alternatives: 10-12.5% each to private equity and real estate. Recent lobbying efforts, however, have worked to expand that to 25-30% in total and include a proposal for an additional private debt bucket. Similarly, work has been done in Chile to facilitate the creation of a real estate bucket. 

This is something ROAM sees as a positive in the region for both investors and potential GPs. “The regulators are doing a great job trying to streamline and align to international best practices so that plans can better allocate their assets and track performance more accurately and efficiently,” says Stiernon.

Positive Change Ahead
Appetite for private capital in Latin America is certainly there and the gates are opening. This is perhaps more the case in some regions than others, but the mutual attraction is there between GPs and LPs, and the events of 2020 may strengthen this relationship. Akin to many other global trends, the COVID-19 pandemic has exposed many weaknesses which have been addressed out of necessity. In the wake of this once-in-a-decade risk event, LPs looking to diversify and pursue higher-yielding investments may see opportunity in Latin America – and many of the world’s smartest GPs will be there for the commitments. 

Read our factsheet for key metrics on the private capital and hedge fund markets in Latin America.