South of the border

Emilio Botin, Chairman of Banco Santander, had good news to report when he gave shareholders in Spain’s biggest bank an update on its performance recently. The bank had managed to avoid the subprime damage that was hurting its rivals and was on track to rack up record profits in excess of €10bn in 2008.

The secret of the Santander’s success was growth in Latin America – and in Brazil specifically – which had offset the economic slowdown in its home market. Last year Santander doubled its presence in Brazil when it joined a bidding consortium to acquire and subsequently dismember ABN Amro. Santander’s prize was Brazil’s Banco Real, which it has been busy integrating with its existing operations in the country.

Latin America, where the bank gets a third of its earnings, showed a “very good performance,” Mr Botin said, with Banco Real proving “an extraordinarily valuable asset.” He now expects Latin American profits to increase 20 percent in dollar terms this year. Overall, its growth in the region had helped the bank to show “considerable strength in the face of the abrupt change in financial markets,” he told shareholders. While the global economic and financial environment has become much more difficult, “there are signs that the worst of the financial instability is over,” Mr Botin said.

Well, maybe it is for Banco Santander, but the financial turmoil has had a punishing impact on major western banks, with several announcing large-scale redundancies. Now, an increasing number of those that have been hurt by the crunch are looking to follow the Santander strategy. Salvation, they believe, can be found in Latin America.

LatAm focus
As activity in the developed west dips – or takes a nosedive, depending on your levels of pessimism – an increasing number of bank executives say they expect a greater share of revenue will come from Latin America over the next five years. A study just published by the Economist Intelligence Unit highlights the trend: 61 percent of senior bank executives said the region accounts for less than 10 percent of their revenue; in five years time only 23 percent expect that to be the case. The trend was particularly noticeable among US bankers.

The EIU report, Globalisation winds in the Latin American banking industry, says bankers expect the global economy to have a greater impact on company operations than local markets in the medium term. The main risk to this scenario is the impact of the international financial turmoil on the region. While Latin America is perceived as vulnerable as other emerging markets, it is also viewed as less fragile than in the past, which is a sign of greater investor confidence in the region. The Latin American banking industry is relatively underdeveloped, and banks are looking to capitalise on that by expanding their operations in the region.

“The Latin America region is becoming an important player in global commerce. However, the opportunity to develop the financial services industry is still very significant” says Richard Hartzell, an executive at MasterCard, which sponsored the research.

The region is clearly a natural place for Spanish banks to invest, but the primary regional interest is likely to come from North America, the survey found. And what’s more, the general perception of brands of foreign banks in Latin America is positive, according to 88 percent of South American-based survey respondents. As a result, there is likely to be less risk of rejection from consumers in the event of foreign acquisitions.

Hot spots
The most attractive markets are expected to be Brazil, Mexico and Argentina. Brazil was the clear hot pick among respondents to the EIU survey: 71 percent ranked it as their lead choice. Mexico was second (43 percent) and Argentina third (38 percent). However, those rankings don’t reflect the banks’ investment priorities exactly. Those in North America said their 1-2-3 were Mexico, Brazil and Argentina, but the majority of West European bankers had Brazil as their clear priority (77 percent).

These are important regional variations. North America-based executives surveyed are clearly looking just south of their border to invest. Why? Mexico appeals most because it is a member of NAFTA. Brazil, on the other hand, has been pursuing its own agenda in order to boost South American economic and financial integration. But Brazil is a clear favourite investment destination for non-US bankers because of its promising macroeconomic outlook following years of slow economic growth (In Mexico there is little room for further acquisitions, so investment would have to focus on organic growth.)

The most intensely competitive area is likely to be retail banking, the survey suggests. Positive economic developments in the region have led to the expansion of the consumer market, which is being targeted by financial and credit institutions. According to survey respondents, more than a quarter (27 percent) expect the greatest increase in competition to come in retail banking, compared with 17 percent in investment banking, 15 percent in corporate banking, and 12 percent in consumer finance and cards.

Within retail banking, hot investment areas are expected to be online banking and e-payment transactions. The EIIU report says there is still room for improving customer segmentation and product customisation in the region, and companies operating there will have to focus on these issues to boost their competitiveness.

Resurgence
After hyperinflation and a succession of severe economic crises, Latin America’s economic fortunes have been revived in recent years. The EIU report explains that deep restructuring of the banking system was implemented in several countries, followed by a series of foreign takeovers and acquisitions.

The nature and scope of the change varies from one country to the next. For example, it has been more radical in Mexico than in Brazil. But one thing is clear: the global acquisition of ABN Amro by Santander and a consortium of European banks had a big impact in the region. The report quotes José Juan Ruiz, director of research and strategy at the Santander Group for the Americas: “Latin America has the highest GDP per head among emerging markets, double that of India and 35 percent higher than China. But if you look at the financial sector, it is still underdeveloped, with low levels of credit-to-GDP ratio,” he says. “Progress has been achieved in terms of institutional building, democracies are getting stronger and economies are ready to take off. They need a strong banking sector,” he adds.

The report quotes other bankers who predict that economic growth will boost the demand for financial products and services. And as income per head increases, they also expect a gradual alteration in consumption standards toward more global patterns. “In Brazil, for instance, there is a strong interest in new, technologically advanced products, which is also an expression of globalisation. This has implications for the expansion of the retail industry: references are becoming more global all the time,” says one banker.

Globalisation
The report concludes that globalisation will continue to transform the Latin American banking industry. “Positive developments in the economy of the region have led to the expansion of the consumer market, which is being targeted by financial and credit institutions,” it says. “Gains in purchasing power in various countries of the region have also led to an increase in demand for financial services, while financial institutions are ready to expand in Latin America.”

As globalisation trends come mainly from the US, the outcome of the current financial crisis will be likely to be significant and may trigger a new period of uncertainty. One of the key issues to watch will be whether US and European banks that have suffered the most from the sub-prime crisis will redefine their strategies for the Latin American region as a whole.

A majority of survey respondents feel that the global economic conditions are expected to have a greater impact on their company’s operations than local market dynamics in the medium term.

Nevertheless, Latin America looks less vulnerable than it used to, which is prompting investors to feel more confident about the future of the region. As long as key macroeconomic policy and fundamentals remain in place, the region is poised to attract investment in financial services. Brazil is expected to enjoy the benefits of its investor-friendly status, while Mexico may suffer from the current US financial downturn.

Stability
A recent report by the OECD underlined the economic and political progress that the region has made. Once troubled by a reputation for chronic instability, Latin America benefits today from stable macroeconomic environments and pragmatic policy making, the OECD said.

Democracy is widespread, and is gaining strength from improving fiscal policies. Pension reform is promoting financial development, if not raising savings. Foreign direct investment is strong, and the region has become an important home, as well as host, to multinational corporations. Rapid development of telecommunications, to which foreign investors are major contributors, should help raise the productivity and living standards of many people. And trade with Asia, contrary to widespread fears, constitutes more of a bonanza than a competitive threat for the region as a whole. “Indeed, the preservation of macroeconomic stability in the context of such a bonanza is itself an important achievement,” said the OECD.

But the challenges Latin America faces today are no less impressive. Continuing high levels of poverty and inequality top the list. Together with policies to sustain growth, theses challenges call for less regressive and more efficient social and public expenditures that help build fiscal and democratic legitimacy, said the OECD. It also wants to see pension reforms that, in addition to deepening capital markets, provide reliable sources of retirement income for much broader segments of the population. And it said the region needs to create regulatory systems in key public services (including telecommunications) that are carefully designed to complement market incentives while effectively lowering inequality of access between the rich and the poor.

The OECD also wants to see governments and firms to redirect more of their windfall commodity export earnings to strategic long-term growth-enhancing activities, including more and better spending on education, innovation capabilities and infrastructure. But above all, the OECD said, the region needs to create “efficient and responsive public sectors that benefit from fiscal legitimacy and are capable of providing strategic vision while maintaining fiscal discipline and fully engaging the private sector.”

Clearly, a lot still needs to be done. But the fact that Western bankers, battered by the turmoil in their traditional markets, are turning to the region as a haven of stability, shows just how far Latin America has come.

What proportion of your organisation’s annual revenue is currently derived from Latin America?

Less than 10% – 60%
11-30% – 10%
31-50% – 5%
51-70% – 2%
More than 70% – 16%
Don’t know – 7%

Source: Economist Intelligence Unit

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