ARGT: Not So Argentinian, Expect A Drop In Valuation (NYSEARCA:ARGT)

Summary

The Argentina stock market was one of the best performing in 2023 as investors priced in a radical change in politics that may turn around half a century of populism/socialism and corruption. While the potential for further and sustained macro and equity gains exists, the near-term shocks of reality may dent equity prices. I looked at the Global X MSCI Argentina ETF (NYSEARCA:ARGT) as perhaps an option vs investing in individual stocks and came away disappointed.

Performance

The ARGT has generally performed well vs the Argentine index or Merval. To be fair the index value is not 100% reliable since many stocks do not have ADR listing and the data used the official FX (exchange rate) in its calculation which was substantially overvalued as seen last month when the Milei government began to close the gap vs the parallel or market FX.

The second price chart is of the ETF and its top-weighted stocks, which highlight the massive gains in 2023. However, there seems to be an overabundance of exuberance in some prices.

Will the Real FX Stand Up

The primary problem that Argentine stocks will face in 2024 is a massive devaluation, which has room to run given the near hyperinflation situation of the economy. Given the previous government restriction on USD purchases, price controls, and money printing, the demand for USD grew and a parallel market for USD developed called the Blue which had a 30% to 50% gap vs the official rate for many years. In 2023 that spread exploded to almost 300% with the official rate at 350 and the blue near 1000. This is very important because corporate results and valuations will be impacted in 2024 to reflect a real FX. Only exporters can dodge this FX impact, the domestic-oriented companies will need to raise prices by more than 300% to offset the devaluation or earn far less in USD than they did in 2023 under a fake FX.

As an example, I looked at Telecom Argentina´s (TEO) revenue reported in ARS and Official FX and Blue rates to get an idea of the magnitude of the impact. Under the official FX, TEO has US$4.1bn in revenue in 2022, which will drop to US$1.1bn in 2023 and unless they raise cellular and cable rates massively revenue in 2024 could be US$373m. This has significant valuation implications for many Argentine companies that the market is not fully pricing in yet.

ARGT Portfolio Overview

The ETF is not very Argentinian with a 22.8% weight in MercadoLibre (MELI) that derives less than 20% of revenue from Argentina. MELI is more a Brazilian company with 60% of its revenue coming from that country. In fact, 47% of the portfolio derives 10% from Argentina operations. Add to this a mining exploration company with no revenue yet and 50% of the ETF’s AUM is not from Argentina. Thus, in my view, ARGT may not be the best option for investors looking for Argentina risk.

Portfolio Upside

Using consensus estimates for all the stocks in the portfolio I calculated a weighted upside of 11% for YE24. There is no deep coverage of many Argentina stocks, but most have negative price targets for 2024.

Revenue and EBITDA

Consensus estimates suggest that the portfolio has high revenue and EBITDA growth for 2024 of over 30%. I find these estimates optimistic and may not completely factor in the FX devaluation that would require prices on products and services to increase above inflation to neutralize the impact. It’s more likely this price adjustment takes 2 to 3 years in my view. There is a downgrade risk to the estimates, at least for the pure-play Argentina companies.

EPS Growth

Consensus estimates point to significant EPS growth for the portfolio of over 30%, however, I am not sure that analysts have fully adjusted for the FX implications, and I would not regard these estimates as completely reliable for the Argentina side of the portfolio i.e. 50%. Most likely there will be added coverage and updated estimates post 4Q23 results to be reported in February 2024. With circumspect EPS estimates the PE then becomes more difficult to fathom and could suffer negative corrections again for the pure Argentina exposure companies.

Conclusion

I rate ARGT a sell. The ETF is not a good Argentina proxy with half the AUM in stocks with low operating exposure in Argentina. While the pure play Argentina stocks may have downgrade risk as the full impact of the FX devaluation is accounted for, in my view, a few select export or USD-based companies may thrive in 2024.