Two measures are useful for describing the magnitude and progress of
overall trading on the stock exchange: market capitalization and average
turnover. Market capitalization is equal to the total value of all shares
listed on the exchange and indicates the relative size of the exchange.
Average turnover measures how active and liquid the exchange is. It is
calculated by taking the average value of all shares traded and dividing
that by the market capitalization. The graph below shows two parameters
for the Buenos Aires Stock Exchange.
During the 1990s, market capitalization has been on the increase, reflecting
an increase not only in the number of shares available over time, but also
the number of companies listed. The dramatic fluctuations in average turnover
indicate a marked increase in trading activity for the three years following
Menem's restructuring of the economy (1992 to 1994). More recently, from
1996 to the present, there has been just as dramatic a decline in activity,
which indicates that total volume of trades has not kept pace with the
total value of shares listed on the exchange.
The Breadth of the Equity Market
This decline in trading activity on the BASE appears to be due, at least
in part, to the BASE's lack of breadth. The five companies that rank highest
in terms of market capitalization are shown in the chart below. The three
top-ranking companies account for 50% of the exchange's market capitalization.
(Two of them, YPF and Telefonica
de Argentina, are the subject of detailed analyses on this web site.)
That only a few stocks are exceptionally active while the remaining stocks
are relatively illiquid serves to make the BASE more volatile than it otherwise
would be in the case of more evenly distributed trading.
Equity Issues
New equity issues have been a major vehicle through which the Argentine government has privatized state-owned industries. These privatization's began as part of the government's economic reforms in 1989 and have continued to the present, though receipts and were largely complete by 1995. In recent years, new equity issues from state-owned companies undergoing privatization have been on the decline. This trend may also explain the reduced activity on the BASE since 1995. One of the more significant of recent equity issues was related to the privatization of Banco Hipotecario, the national mortgage bank. This issue, which took place on January 17, 1999, raised $270 million, despite the strain on Argentina's currency peg due to the Brazilian devaluation. According to Pamela Druckerman in an article from the Wall Street Journal (January 28, 1999, p. A15): "The sale attests to investors' confidence in Argentina's long-term growth and its ability to hold its currency's link with the US dollar."
The Merval Index
The Merval index represents the market value of an equity portfolio
comprising 19 major Argentine stocks. The value each stock contributes
to the portfolio is weighted according to trade volume. The graph below
shows the progress of the Merval index from January 1, 1996 to December
11, 1998. From August 1996 to July 1997, the index showed relatively steady
gains. By September 1997, the index had leveled off and stayed between
800 and 850. In October, 1997, during the Asian crisis , the index suddenly
fell down to 600, a 25% drop in value. From this point on, Argentina's
equity markets have been relatively depressed. The index hovered within
the 600 to 700 range until mid-August 1998, when the Russian debt rescheduling
brought on a second crash, this time down to 300, a 50% reduction in value.
Throughout September and October, low share prices and an improvements
in the state of world financial affairs prompted a strong recovery, but
then, in mid December, a reversal occurred.
By September, a decrease in sovereign risk prompted a recovery in Argentine
bond prices, resulting in a declining yield. Argentine bonds have recovered
to a greater extent than bonds from other emerging countries. This favorable
situation has actually permitted the Argentine government to issue new
bonds. While the terms of these bonds are acceptable, the interest rate
spreads relative to US bonds are greater, reflecting the continued high
levels of sovereign risk. The most recent issue, which took place on February
17, 1999, consisted of $1 billion of 20 year global bonds (yield of 12.2%);
though, it was not clear whether the there was sufficient demand in international
markets to absorb the offering.
Capital Controls
There have been no significant capital controls on foreign investments since the Argentine government liberalized its capital markets in 1998. As part of these economic reforms, a number of taxes that once applied to equity investments have now been repealed, including those pertaining to capital gains, withholding, dividend income, stock transfers and foreign exchange payments. The only real exception is a 12% tax that applies to various kinds of debt instruments and time deposits held by foreigners. The main goal of the present policy is to encourage foreign investment in stocks and bonds; however, the benefit of larger capital flows into the country is offset by an increased risk of sudden flows out of the country.
Volatile Flows
One of the major problems Argentina faces today is the volatility of
its capital markets. Large, sudden outflows can bring on a recession, while
significant, unexpected inflows can lead to inflation:
A sudden, large capital outflow can have disastrous destabilizing effects. Foreign investors selling off their Argentine stocks would cause asset prices to fall precipitously. In a case of capital flight, proceeds from the sale of assets would be converted from the Peso into foreign exchange, thereby running down the reserves at the central bank. This would place downward pressure on the Peso that could lead to a devaluation. In order to defend the peg of the Peso to the US dollar, the central bank must continue to allow foreign exchange transactions against its reserves. Speculators seeking to make a short term gain off an anticipated devaluation accelerate the process and increase the pressure for a devaluation. The government may need to raise its already high interest rates (an adjustment for the increased of risk of investing in Argentina) in an effort to keep foreign investments in the country by providing a more profitable return. This would make it even more difficult for small to middle size firms to afford new loans than it is now. The net loss of foreign investment funds in such a crisis could very well bring on a serious recession.
A momentary surge of capital investment into the country, while not as serious as a sudden capital outflow, can nevertheless cause its share of problems. Incoming funds, denominated in a foreign currency, would be traded for the Peso, raising the level of foreign reserves and increase the amount of local currency in circulation. Interest rates would fall, bringing on an economic boom. Large purchases of stock would lead to an increase in the price of assets. To bring the impending threat of inflation under control (as it is committed to do), the central bank might issue treasury bonds to sterilize the monetary base, however the cost in terms of interest on these bonds can be costly. On the other hand, if inflation continues unchecked, foreign investors would loose confidence in the government's ability to stabilize the economy, putting in jeopardy the availability of future financing from abroad.
Two factors that make Argentina's capital markets volatile have already been described: the absence of capital controls and the concentration of trading activity among a few companies' stocks. A third factor is the lack of transparency regarding financial disclosure. Domingo Cavallo, the former Minister of Economy, Finance and Public Works, stressed the importance of transparency for making Argentina's economy more credible. In a commentary for Volatile Capital Flows: Taming their Impact on Latin America by Hausmann and Rojas-Suarez (p. 48), he wrote: "If we still need to learn one lesson, it is that much remains to be done to make our institutions truly transparent from the perspective of portfolio investors."