Morning Note /

Latam Daily: Mexico looks to revive economy, Peru politics back in focus

  • Talking Points: Mexico announces infrastructure package, Peru’s cabinet questioned

  • Forex: Less hawkish BCB reduces support to the BRL

  • Fixed Income: Bonds in for short-term pain as global policy tightens

Lloyd Miller
Lloyd Miller

Head of Developed Markets and Latin America Research

Danny Greeff
Daron Hendricks
Kieran Siney
ETM Analytics
4 February 2022
Published byETM Analytics

Talking Points: Mexico announces infrastructure package, Peru’s cabinet questioned

Brazil: There is a dearth of economic data out of Brazil today. Today will however see the release of the latest US jobs report, which will likely result in some fresh directional impetus for global markets. Politics will also be in focus today, with President Bolsonaro and Economy Minister Guedes set to attend a public event at 14:00 local time. As always, comments from both leaders have the potential to result in some fresh price action for local assets.

On the commodity front, a slowdown in China's steel production is curbing demand for bulk ships to transport iron ore, driving a free-fall in global freight rates. Capesize rates to ship the steel-making raw material from Brazil to China have fallen 60% from October, according to the Baltic Exchange, while the widely watched global Dry Index has slumped 75% in the past four months. China, the world’s biggest steel producer, has been affected by pollution curbs on heavy industry, while government measures to conserve electricity during an energy crunch last autumn prompted some factories to shut down

Mexico: In an attempt to kick start Mexico’s economy after slipping into a technical recession, the government is readying a multibillion-dollar infrastructure package with private companies. The public-private investment package will include over 40 projects in areas like highways, energy ventures, telecommunications and ports, Finance Minister Rogelio Ramirez de la O said in an interview at the National Palace yesterday. He said an official announcement would come soon, declining to provide further details. The government is also reaching out to more investors in the US to attract increased investment in Mexico, which historically would otherwise go to China. Moving operations from Asia closer to the US is beneficial in times of widespread supply shortages and rising shipping and labour costs

It is a busy end to the week, with several key economic data releases scheduled today. The focus will be on gross fixed investment activity and the latest Banamex survey of economists. Concerning the former, investment activity in Mexico is estimated to have moderated on a m/m basis in November after October’s flat reading. Investment remains below pre-pandemic levels and has been constrained by covid-19 concerns, tight fiscal policy and the government’s nationalist agenda. The factors mentioned earlier are likely to continue to weigh on the investments going forward. We could, however, see investments return to pre-pandemic levels off the back of the government's soon to be announced infrastructure plan

Colombia: Today, domestic focus will be on the presentation of the finance ministry's financial plan for 2022, which will provide fresh economic growth, inflation, fiscal, and unemployment forecasts from the government. Thereafter, the spotlight will shift to January CPI numbers that are scheduled for release tomorrow. Consensus expectations as per Bloomberg surveys are for a further rise in inflation from 5.62% y/y to 6.36% y/y, primarily owing to higher non-core inflation and base effects. Core inflation may also rise, however, due to accumulated currency depreciation, imported inflation, supply constraints, and strong demand in Colombia.

Chile: The outgoing Finance Minister Rodrigo Cerda has stated what most of us have been thinking for some time, Chile is going to need more revenue to cope with the growing “social pressures”, and this is likely to come from increased taxes. This comes against a backdrop of sustained higher inflation predictions and a slowing economy. The expectation of those trading the market and those commentating on it is that inflation will remain above the 3% target for the next two years despite the higher borrowing costs. This is going to make additional taxes painful for the average citizen. As mentioned in previous notes, the new government is likely to contend with a massive economic stimulus hangover at the start of their reign.

In other news, much is being made of the talk of mine nationalisation. Debate going forward is likely to be vigorous, however we see the likelihood of this coming to pass as slim

Peru: The problems for President Castillo keep mounting, with former allies rejecting his pick for the country's new PM. Hector Velar has faced accusations of domestic abuse and thus women's groups have called for his replacement. Centrist party lawmakers are also calling for him to be removed just a few days after he was installed into the position, joining more right-wing parties in the call. Protests are set to begin this weekend against Castillo's cabinet picks, while his own party has also spoken out against them, likely with respect to the new Fin Min, who is actually seen by the markets as a prudent choice.

Meanwhile, Peru's top court has rejected Castillo's case against a law that effectively limits his powers. The law makes it a lot more difficult for him to dissolve Congress by requesting a vote of confidence. This suggests that the battle between the government and Congress will continue, and leaves Castillo vulnerable to further impeachment votes, especially now as he has seen his support among lawmakers decline rapidly. This leaves the country in a place that makes it extremely difficult to govern. It does, however, have the benefit that current legislature, that is generally seen as business-friendly, may remain in place, with no major reforms likely to pass through Congressional approval mechanisms.

Forex: Less hawkish BCB reduces support to the BRL

Brazil: A more hawkish tilt by both the ECB and the BoE have placed the USD on the defensive. It is now trading at weaker levels than ahead of last week's FOMC decision and will soon be testing its recent lows in mid-Jan. Not even the retreat in equity markets was enough to put the brakes on the USD's slide. This will go a long way to promoting higher risk currencies as well as commodity prices more broadly.

Despite the sharp drop in the USD, the rally in the BRL came to an end yesterday as the market digested the BCB’s policy statement, where it signalled that it intends to reduce the pace of interest rate hikes following what has been the world’s most aggressive hiking cycle in the Covid era. Despite reversing some of its earlier losses, the BRL still ended the session 0.41% in the red against the USD at 5.2874, according to Bloomberg. That said, although the BRL weakened yesterday, the local unit still looks set to end the week in the green against the USD.

Mexico: After some whipsaw price action yesterday, the USD-MXN closed on the back foot at 20.5492 as the USD remained on the defensive following a more hawkish tilt by both the ECB and BoE. Yesterday’s price action keeps the pair wedged between the 100-and-200DMAs, with a year-to-date gain of more than 1%. In pre-market trade, the USD-MXN has firmed, despite the greenback hovering around a one-week low ahead of the non-farm payroll figures. Investors will be watching to see if the US jobs data offer any clues on the Fed’s future policy path ahead of next week's eagerly awaited US inflation report. Given this cautious backdrop, the USD-MXN may continue to oscillate around the 20.600 mark, which sits just below the 100DMA at 20.6432.

Colombia: The COP added to Wednesday's decline with a further 0.55% depreciation yesterday, moving further away from the technical base provided by its 100-session moving average. It remains rangebound heading into the weekend, with early trade today suggesting momentum will remain with the bears as the USD stages a tentative recovery from this week's losses. The 50-session moving average at 3985/$ is likely to be the first line in the sand today, although much depends on how the market reacts to the US employment report and the Colombian government's financial plan presentation.

Chile: The USD remained on the defensive yesterday and recorded its third consecutive day of losses. The USD index is now trading at levels seen just ahead of the FOMC decision and statement last week, with the recent ADP data shocking the market into the reality that the US economy is not out of the woods just yet. The weak ADP data has also given rise to speculation that the non-farm payrolls data could equally be weak and that the US economy still has further to improve before it can fully justify the Fed's hawkish stance. For now, the impact is deemed to be temporary.

In terms of the local unit, much the same at Tuesdays trading pattern with the CLP holding above the 800 handle. The USD-CLP closed at 811.38 with 819.88 being the next hurdle for the bulls. We confirm the strategy of buying on any dips.

Peru: The USD-PEN was little changed yesterday, just above the 3.8500 level yesterday, with rising political issues offsetting the weaker USD. The political noise is a risk over the near term and could generate some volatility for the local currency. However, the longer-term prospects for the PEN still look fairly favourable at the moment, given a prudent central bank, robust government finances, and a fairly strong trade position owing to rising prices of some of Peru's key exports.

Fixed Income: Bonds in for short-term pain as global policy tightens

Brazil: Notwithstanding the rebound in international oil prices, a weaker currency and hawkish comments from the ECB and BoE, Brazilian swap rates traded lower yesterday after the BCB sent a clear signal that it plans to slow down the pace of monetary tightening and that the end of the current hiking cycle is near. Rates on the short-end and belly of the swaps curve fell sharply as traders readjusted their interest rate expectations. The downside movements were not limited to the front-end and belly of the curve, with the 10yr swap rate shedding 13bps to close the session at 11.15%, the lowest level in almost a month.

Similar to the swaps market, shorter-dated bond yields traded lower yesterday, with the 2yr yield, for instance, plunging 17bps to 11.40%. However, longer-dated bond yields traded higher on the session. For context, the benchmark 10yr yield climbed 10bps to 11.21%, snapping a multi-day winning streak. Looking ahead, while the curve steepened yesterday, we remain of the view that the broader flattening bias will remain entrenched in the weeks ahead with inflation risks still skewed to the upside.

Mexico: Global bond markets are being swept up in a fresh wave of selling as monetary policy normalisation bets are beginning to intensify worldwide as inflation is forcing central banks to roll back the supportive measures, they imposed during the Covid-19 pandemic. MXN bond yields rose in trade yesterday, with the most pronounced movement on the front-end and the belly of the curve, moving similarly to the selling pressure on US Treasury yields. Looking to the session ahead, MXN bonds are expected to remain under pressure, with another cue of offered bonds from Asia. Yields may continue to move higher throughout 2022 as investors adjust to the removal of pandemic-era stimulus. Broadly speaking, MXN bond yields have risen by more than 300bps, on average, to move off their 2021 lows and are trading back around pre-pandemic levels.

Colombia: The Colombian yield curve continued to flatten on Thursday, adding to its broader trend for the week. The front-end rose as the market positioned for more BanRep rate hikes in the months ahead, while the long-end dropped despite rising CDS rates as the market positioned for a faster global monetary tightening cycle globally what was previously expected. The drop at the long-end may also reflect some speculative bets that political fears of late are overdone, especially since Colombia's congress will likely keep any incoming government in check. Looking ahead, investors will need to navigate a US employment report and a local government finance plan today, while simultaneously positioning for tomorrow's CPI numbers.

Chile: Taking a look at the IRS curve we see the trend of dis-inversion stalling and reversing to some degree. The 2v10 is now marked at -43 bpts from the lows of -61 bpts at the start of Feb. The question that will be asked is whether or not this trend towards normalisation continues or do we experience a period of consolidation? We take the view that we consolidate in the near term until we get further insight the inflationary pressures, but more specifically the trajectory for oil, which will determine whether front end payers come back in a big way.

Peru: Local bonds were little changed on the day yesterday, consolidating after the rally seen following the appointment of Oscar Graham as Finance Minister. The 2023 tenor is trading near 3.9100% at the moment with it likely to hold around current levels until next week's Reference Rate announcement. There is, of course, the risk that we see some further political shocks in the near term, which would push yields higher given the risk of capital outflows and currency deprecation that will exacerbate inflationary pressures. CDS spreads, meanwhile, have been widening recently with the 5yr benchmark back near 87bp, levels last seen in early December. This still indicates that the risk of a credit event is minimal at the moment, with government finances likely to remain fairly robust given the windfall from higher metals prices.