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Mexico is poised to ride the nearshoring wave
- September 1, 2023: Vol. 10, Number 8

Mexico is poised to ride the nearshoring wave

by Morgan Stanley

The world economy is realigning, with trade and supply chains becoming less decentralized and less deeply interconnected as globalization slows, or even reverses, in a multipolar world.

Mexico, in particular, could be a major beneficiary of this shift to “slowbalization.” Among other reasons, the United States is likely to look to allies that are geographically close and politically aligned as trade tensions, supply-chain difficulties and geopolitical concerns push the United States further from China.

A key step in this disengagement process is nearshoring, in which U.S. manufacturing companies move production closer to their bases and consumers in the United States and away from Asia. Along with its obvious geographical advantages, Mexico offers a large, low-cost labor force and free-trade agreements with the United States and Europe.

Nearshoring has the potential to boost the growth of Mexican manufacturing exports to the United States, from $455 billion today to an estimated $609 billion in the next five years. Manufacturing exports currently represent about 40 percent of Mexico’s $1.3 trillion economy. This estimated surge represents more than 10 percent of GDP.

Meanwhile, new investment driven by nearshoring could reach about $46 billion in the next five years, helping boost Mexico’s annual GDP growth to around 3 percent in 2025 to 2027, from an estimated 1.9 percent in 2022. Recent investment announcements, including a decision by the leading U.S. electric carmaker to open a $5 billion plant in Monterrey, highlight the growing nearshoring trend.

But potential hurdles to nearshoring-driven growth remain. While Mexico is well positioned to tap into the nearshoring opportunity in terms of wages, commodity costs and tax rates, it still faces issues with access to skilled labor, environmental regulation, quality of infrastructure and intellectual property rights.

Energy infrastructure, in particular, remains a key potential limiting factor. The country has underinvested in the electricity sector and needs to improve grid capacity. Mexico would need roughly $40 billion in incremental spending to build enough generation capacity to power expansion from nearshoring.

As Mexico’s GDP and manufacturing grow, so too should corporate profits, especially in the financials, industrials and consumer sectors. In fact, during periods of above-average GDP growth, Mexican equities have tended to outperform in terms of valuation, profitability and operating performance.

In addition, stocks in industrial real estate, transportation and logistics, metals, and cement could benefit from the realignment of supply chains.

The nearshoring trend has already driven a rerating of Mexican stocks, and strategists see further upside for domestic companies in the next five years as the second wave of nearshoring growth gathers momentum.

 

This article was excerpted from a Morgan Stanley report. Read the complete report here.

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