Morning Note /

Peruvian bonds battered again, growth concerns rise in Brazil

  • Talking Points: Moody’s affirms Brazil’s rating, Peru edges closer to more pension withdrawals

  • Forex: Liquidity levels to thin out ahead of long weekend

  • Fixed Income: Peru bonds to remain under pressure as more pension withdrawals loom

Lloyd Miller
Lloyd Miller

Head of Developed Markets and Latin America Research

Daron Hendricks
Danny Greeff
Kieran Siney
ETM Analytics
13 April 2022
Published byETM Analytics

Talking Points: Moody’s affirms Brazil’s rating, Peru edges closer to more pension withdrawals

Brazil: The big development overnight was Moody’s sovereign credit rating update for Brazil. Moody’s affirmed Brazilʼs Ba2 ratings and outlook at stable. Moody’s said that the stable outlook reflects Moodyʼs expectations that recent reforms to the fiscal and monetary policy frameworks are structural in nature and will be largely preserved against the risk of fiscal slippage and weak growth impacting fiscal consolidation. The agency highlighted that Brazilʼs economy demonstrated resilience to the pandemic shock, with a strong rebound in GDP growth and improvement in fiscal metrics in 2021, as the government regained momentum in approving key fiscal and structural reforms. Moodyʼs expects fiscal reforms to remain in place, gradually improving fiscal results and stabilizing the debt burden.

Growth concerns, meanwhile, intensified on Tuesday following the weaker than expected services sector report. Services activity in Brazil fell 0.2% in February from January. This marked the second consecutive contraction month of contraction. On an annual basis, services activity, which accounts for about 70% of Brazil's economy, expanded by 7.4% y/y in February. While economists forecast a weak performance for the Brazilian economy this year on the back of the ongoing supply chain pressures and tight monetary policy conditions, the government remains of the view that Brazil’s economic performance will be strong this year amid a solid recovery in the labour market and increased private investments.

Mexico: Mexico’s international reserves held by the central bank fell by $580mn to $200.15bn in the week ended April 8 after increasing by $195mn in the previous week. The latest print reflects the strengthening of the greenback against other currencies, which offset the rise in the US dollar gold price. Reserves will remain a function of the oscillations in the value of gold and FX market fluctuations going forward. With the USD likely to appreciate in the months ahead amid the rising prospects of the US Fed normalising monetary policy, reserves could come under pressure.

In political news, Mexico’s ruling party pushed a key vote on President Lopez Obrador’s electricity reform to Easter Sunday, which critics and political analysts have described as an attempt to force the bill through when attendance in congress might be lower, according to Bloomberg. The vote in the lower house was originally scheduled for Tuesday. However, Morena and its allies were expected to be fifty votes short of the required two-thirds majority for a constitutional amendment after opposition parties vowed to oppose it..

Colombia: Today, the Colombian data card heats up with the release of retail sales stats for February, which are expected to reflect an 8.7% y/y growth rate. While falling COVID-19 cases may have supported retail activity through the month, risks remain tilted to the downside as recent consumer confidence gauges and other leading indicators suggested Colombia's economic momentum may moderate through 2022. In addition to the retail sales print, there will also be February manufacturing and industrial production numbers released today. These data prints are also expected to reflect relatively strong, but slowing economic momentum in Colombia. While domestic demand is still driving economic activity in Colombia, higher commodity prices will likely also support the industrial production print.

Today’s data releases will be particularly interesting given the precarious position the Colombian central bank finds itself in, as it looks to combat mounting price pressures without denting Colombia's slowing economic expansion. The releases thus hold some market-moving potential ahead of the Colombian long weekend.

Chile: The President Gabriel Boric submitted a competing pension withdrawal proposal which resulted in the original proposal being voted down by the congressional committee on Tuesday night. Boric was in favour of the previous four withdrawals but his new proposal is far more restrictive and speaks to the pragmatism that is needed as head of state rather than a populist position one can adopt when one is the leader of the opposition.

Boric has proposed that any withdrawals can only be used to pay off debt, this way the cash will not enter the economy via consumption and not impact inflation. Reuters reported the following - The government's new proposal would also cap withdrawals at 10%, but restricts access to pension funds for alimony payments, mortgages and other debts. The bill also bolsters unemployment insurance. Both bills were debated simultaneously, with Boric's proposal clearing the committee first. Some legislators in favor of a blanket 10% withdrawal argued that the government shouldn't have a say in how people use their pension funds. Despite the committee votes, both bills will face a full vote in the lower house, where the unrestricted withdrawal is also expected to be voted down.

Peru: The economic committee of Congress in Peru has approved a bill that would allow Peruvians to withdraw up to 18.4k PEN, or $4.9k, from their pension funds. The bill will still need to pass a vote by lawmakers in the floor to go into effect, but given the recent poll numbers that show just how disapproving the public is of Congress at the moment, it is likely that the bill will pass this final hurdle. While withdrawals will help the balance sheets of the poor, they will threaten to drive inflation higher as more money flows towards consumption. Massive withdrawals will also have a notable impact on the bond market, with borrowing costs likely to rise as pension funds liquidate their portfolios of government bonds, driving yields higher.

Sticking with Congress, there will be a debate today in the permanent committee on the accusation against President Castillo for the alleged commission of treason regarding his backing of giving Bolivia access to the Pacific Ocean through Peru. A court yesterday denied Castillo's petition to block the proceeding, allowing the debate to go ahead today. If this committee votes to continue with the accusation, Congress will debate it further in the coming weeks. Congress would need to approve the accusation by 66 votes, far less than the 87 needed to impeach Castillo. If it is approved, Castillo will be suspended pending a court investigation.

Finally, Congress also voted in favor of modifying the sales tax bill, removing the suspension of the tax on certain luxury food items. The sales tax is still suspended on goods such as chicken, eggs, sugar, and bread. The bill is in effect until the end of July, not the end of December as was initially proposed.

Forex: Liquidity levels to thin out ahead of long weekend

Brazil: Emerging market FX was a mixed bag yesterday, with the likes of the CLP, ZAR, MXN and BRL closing the session in positive territory, while the RUB and CEE currencies led the declines. The BRL was the fifth best performing EM currency on the day, gaining 0.46% against the USD to end the session at 4.6750, according to Bloomberg. Shifting the focus to the USD, buoyant headline inflation data yesterday and comments from Fed speakers alluding to further tightening continued to lend some support to the USD. The trade-weighted USD index was able to break through the 100 index level and has consolidated those gains this morning. This suggests a muted open for the BRL today, while we could see liquidity levels thin out as we head into the easter weekend.

Mexico: The USD-MXN continued to slide yesterday, closing at 19.8030 and is now on course to test its 2022 lows. In pre-market trade this morning, the USD-MXN has drifted lower, breaking below the 19.800 support, and is approaching its April 4 low of 19.7274. It is worth mentioning that the death cross formation was completed yesterday, implying there is more room to the downside. From here, the pair could probe a 10-month low of 19.5987. The bearish bias, however, may have to wait till next week, with the local market preparing for the long weekend. As a result, we can expect reduced trade volumes in the coming session as investors exit their positions.

Colombia: After some volatile trade yesterday, the COP closed slightly stronger against the USD as the market struggled to digest mixed Stateside inflation data. More broadly, momentum remains with the COP bulls, and the currency could continue to advance towards recent lows of 3700/$ in the days ahead. However, it may require a strong catalyst to break below this level, with consolidation around 3750/$ looking the most likely outcome for now. Note that liquidity conditions in Colombian markets may thin out today given the long weekend that starts tomorrow.

Chile: An improvement in the copper price has allowed the CLP to settle into its range between the 50DMA and 200DMA moving average to the bottom at 802, and the 100DMA moving average at 817.78 to the top. The USD-CLP did close towards the lower end of the range at 805.88 overnight, while this morning we have emerging markets on the front foot which does suggest the potential of a test of the lower end of the range at the open.

Peru: The USD-PEN rallied yesterday to a near two-week high of 3.7299 as the political backdrop continues to deteriorate and concerns are mounting over more pension fund withdrawals. The withdrawals could initially provide support to the PEN once they start occurring, as the selling of bonds could bring in currency inflows. However, the longer-term outlook has been dealt a blow, and the fraught political backdrop means that investors will remain very wary of going long the currency. Liquidity levels, meanwhile, are expected to thin out from today as local markets will be enjoying a holiday tomorrow ahead of the easter weekend.

Fixed Income: Peru bonds to remain under pressure as more pension withdrawals loom

Brazil: It was a mixed session for bonds on Tuesday, with yields on the front-end of the curve trading higher while yields on the long-end continued to rise. The modest recovery in shorter-dated bonds came on the back of a multi-day losing streak, stronger BRL, and weaker than expected services sector print, which would’ve helped offset the rebound in international oil prices. For context, the 2yr yield shed 4bps to close the session at 12.77%. While yields on the front-end of the curve edged lower on Tuesday, the broader bias remains firmly to the upside. Meanwhile, the benchmark 10yr bond yield ended the session 7bps higher at 12.04%.

Looking at the session ahead, given that there were no material changes in Moody’s credit rating update overnight, we don’t expect there to be any meaningful market reaction today. Bond traders will continue to take direction from offshore developments today. Given how sensitive financial markets are to monetary policy dynamics at the moment, Canada’s central bank rate decision could provide some fresh directional impetus for the global bond market..

Mexico: MXN bond yields fell across the local yield curve on Tuesday, mirroring the drop in US Treasury yields as the global bond market weakness came to a halt. Yields on shorter-dated bonds led the move lower, while the 10v2 yr bond yield spread widened as investors pare back expectations on how aggressively the Federal Reserve will raise interest rates. This relieves Banxico of some pressure, although avoiding a downturn is not guaranteed. With UST yields nudging higher ahead of the US Open and the MXN strengthening, we could see MXN bond yields trade relatively flat.

Colombia: The Colombian yield curve dropped sharply on Tuesday in sympathy with the UST curve, with some bonds shedding as much as 22bps from their yields yesterday. Moves were especially pronounced at the long-end of the curve, leading to a bull flattening thereof through the session. Whether this bias can be maintained into the long weekend is unlikely, however, as UST yields are once again on the rise today as the market digests yesterday’s Stateside inflation print more completely.

Chile: The narrative remains the same, the inversion trade is back on in full swing as the 2v10 swap spread holding clear of the -130 bpt level overnight. The market is testing the Central Bank’s call on a more dovish approach to monetary policy as inflation runs wild and the threat of higher inflation levels remains embedded in the outlook for now. The Central Bank minutes are especially relevant today as there seems to be a disconnect between how the Central Bank views the longer term pressures and what the market sees. Payers remain strongly in control however we could see this tested if the minutes sell a good story.

Peru: Bonds weakened sharply yesterday, with yields surging up to 15bp on the session when looking at the local currency curve. Dollar bonds, however, gained marginally on the day as these will be less affected by the pension withdrawals that could see local bond portfolios liquidated in order for pension managers to get enough capital to meet the requests. Given all that is going on in Peru at the moment, it is difficult to see the rotation out of local currency debt reversing anytime soon.