Morning Note /

Under pressure commodities will weigh on Latam FX and spur growth concerns

  • Talking Points: Drought threatens Chile’s dollar inflows, Peru’s politics remain in focus

  • Forex: Weakening commodity prices threaten the terms of trade for Latam countries

  • Fixed Income: Rising growth concerns favour receivers

Lloyd Miller
Lloyd Miller

Head of Developed Markets and Latin America Research

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

Talking Points: Drought threatens Chile’s dollar inflows, Peru’s politics remain in focus

Brazil: Looking at the session ahead, the central bank is slated to publish its Focus survey, which will provide the latest economists' estimates for GDP, inflation, the Selic rate and FX. Recall that the central bank has refrained from publishing the weekly survey, which has the potential to provide market impetus, for the past three weeks due to a strike. Given the developments on the global front over the past three week, we could see some notable revisions.

Politics are back in the spotlight this week as tensions between the government and the Supreme Court resurface. A local newspaper reported that the Defence Ministry repudiated statements made by Supreme Court Justice Luis Roberto Barroso, who over the weekend stated that the Armed Forces were being guided to attack and discredit Brazil’s electoral process. Minister Paulo Sergio Nogueira de Oliveira called the comments “irresponsible,” adding that they affect the “harmony and respect between institutions.” The political clash comes days after President Bolsonaro pardoned lawmaker Daniel Silveira, who was accused of inciting attacks on the top court, a decision which again increased institutional tensions in Brazil.

The Economy Ministry said that the government would issue a provisional measure that expands the access of micro, small and medium-sized companies to the guarantee funds. According to the special secretary for Productivity and Competitiveness, these are resources in the banks with no use. The measures aim to boost credit by BRL 23bn.

Mexico: Mexican President Lopez Obrador stated yesterday that his administration was working on a strategy to tackle accelerated inflation, especially in the food sector. Food prices are spiking across Latin America, causing hunger for the poorest families, triggering mass unrest in Peru, and complicating the task of central banks. Worse still is expected after Russia’s invasion of Ukraine caused a surge in wheat, corn, and fertiliser prices. In recent weeks, avocados, chicken, corn tortillas, and meals at fast-food lunch spots have contributed to accelerating Mexico's inflation. The president could present a plan as early as Tuesday next week that will address the prices of Mexican staples, made up of roughly twenty-five items. The government has met with representatives of leading companies to discuss the plan, said two sources familiar with the talks, who asked not to be named. The government's assistance to farmers and agreeing on a plan with private businesses will help contain consumer prices.

Today’s economic releases include retail sales and weekly international reserves. Concerning the former, retail activity in Mexico has remained under pressure in recent months, indicating that household consumption is not holding up well amid rising consumer prices, high unemployment levels and weak economic confidence. It must be noted that y/y on growth figures remain supported by base effects, given that the economy remained under lockdown restrictions, which would have restrained consumption. While these base effects may continue to prop up February’s reading, the outlook for the sector is slightly less optimistic when looking at rising inflation, decreasing nominal wages, and slowing economic growth. These will further eat into households' tight budgets and see the sector come under renewed pressure

Colombia: Colombia's fiscal rule committee, which is tasked with supervising public accounts, said yesterday that Colombia's fuel subsidy fund is projected to more than double its deficit to COP33.7trln this year because of high oil prices. The deficit in the fund - which is separate from the national deficit - would be equivalent to 3.3% of GDP, the advisory committee added. Recall that the government has not yet passed the increase in fuel prices onto consumers, amid inflation that's nearly three times the central bank's 3% target. "Care must be taken with the issue of inflation, a strong increase could worsen inflation," said committee President Juan Pablo Cordoba. "Often when there are difficult decisions the decision is to do nothing, but not doing anything also has consequences."

Chile: FX traders and policymakers will be keeping a close eye on developments in the agricultural sector given its impact on hard currency earnings and tax revenue. The citrus industry has stated that they expect the 2022 growing season to be challenging with the drought, the pandemic restrictions and logistical issues all combining to cloud prospects. The exporters association Asoex is predicting a decrease in exports for multiple categories.

The freshfruit portal reported the following - According to a statement, clementines are one of the most affected cultivars, with a projected export crop of 45,000 tons, a 35% drop compared to 2021. “This season we have an important drop in clementine production due to the drought which we are experiencing in Chile. Clementines are very important in the Coquimbo region, which is one of the most affected regions by the drought” said Juan Enrique Ortúzar, President of the Citrus Committee..

Peru: Vice President Boluarte has said that there is no reason to fear a referendum on the constitution, aiming to ease investor and public fears over the proposed referendum that President Castillo is calling for during the October regional elections. Prime Minister Torres, meanwhile, has said that the government is seeking a constitution that would establish a "social market economy" as is seen in the likes of Germany, France and Italy. This will seek to balance the interests of the left and the right on the political and economic spectrum. While this is noble in theory, Peru's economic situation is far different from those countries in Europe. We have seen all too well how it turns out when developing markets try and emulate policies seen in developed markets such as Germany or those in Scandinavian Europe. Furthermore, even getting to the point where such a constitution and economic platform is agreed on will be incredibly difficult.

Congress, meanwhile, has said that ministers in the executive could be accused of violating the constitution if they sign the referendum bill, according to Maria Alva, the head of Congress. Alva has said that the current constitution does not allow the call for a referendum. This further cements the view that achieving a new constitution will be an incredibly difficult task for the current government..

Forex: Weakening commodity prices threaten the terms of trade for Latam countries

Brazil: The BRL took another blow yesterday, with the local unit extending its losses from Friday’s session. The sustained sell-off in the BRL came on the back of a surging dollar, global risk-off conditions and an escalation in political uncertainty. The BRL ended the session 1.69% weaker against the USD at 4.877, according to Bloomberg data. While the BRL has come under stern selling pressure in the past two sessions, the BRL is still the best performing emerging market currency in 2022.

Weekly CFTC data showed that while there was a slight reduction in the net longs, the futures market remains decisively bullish on the local currency. The bullish positioning on the BRL comes on the back of Brazil’s positive real interest rates, favourable trade dynamics and still attractive valuations of Brazilian assets. While the BRL is likely to remain on the back foot in the next few session, with the USD extending its gains this morning, we remain bullish on the BRL. That said, risks to the outlook are expected to increase in the months ahead as political uncertainty intensifies ahead of the presidential election in October.

Mexico: What began as a turbulent start to the week, with the USD-MXN piercing through three major technical resistance levels, ended with the pair finishing modestly lower at 20.1982. The main driver of the reversal is not entirely clear, given that the MXN outperformed its Latin American and emerging market peers, other than other regional currencies are more influenced by commodity prices, which sold off heavily yesterday. FX markets remain cautious this morning, with the USD remaining near its recent highs, even though US Treasury yields have slumped. The USD-MXN is bid this morning and is probing the 50DMA, which will not offer much topside resistance and provide the bulls with another opportunity to retest the 200DMA resistance at 20.4235, coinciding with the 38.2% Fibo retracement level..

Colombia: The COP started the new week off the same way it ended the last, as the currency added to Friday's sharp selloff with another 1.90% depreciation yesterday. Accordingly, the COP has lost nearly 4.50% of its value in just two trading sessions, leading EM currencies lower as global growth fears related to China's COVID-19 lockdowns and an aggressive Fed monetary tightening outlook triggered risk-off trade. Of particular concern for the COP is how the weakening global growth outlook is affecting commodity prices and Colombia's terms of trade. Should commodities, in particular oil, continue to slide in the weeks ahead, the COP will lose one of its most important buttresses. The currency's recent selloff may have rebalanced the market to a more fundamentally-sound level, but a decline in commodity prices would severely hamper its ability to recover these losses. Heading into today's session, some consolidation looks possible as market sentiment stabilizes. Should risk appetite remain stable, the currency may struggle to break through the 4000/$ mark in the near term..

Chile: The peso remained vulnerable yesterday with a strong dollar and a weaker copper price all driving the price action. Highs of 859.36 were recorded before some profit taking later in the session allowed the USD-CLP to drift back to 844.945 where it closed. Emerging markets are once again on the back foot in the EU session which suggests that the locals could see a weaker CLP at the open today.

Peru: The USD-PEN had another surge yesterday, gapping higher at the open before closing at around 3.8060. The central bank once again stepped into the market to manage the volatility, selling $241mn. It seems as if the PEN's recent stability and resilience are giving way, which could lead to more notable losses over the coming weeks. The USD-PEN bulls will be eyeing the 100DMA at 3.8392 as the next major resistance level, with a break above there opening the door towards 3.9000.

Fixed Income: Rising growth concerns favour receivers

Brazil: There was strong receiver interest in the swap market yesterday as fears over the Covid situation in China added to growing investor concern that the aggressive Fed tightening will hurt economic growth. As such, rate traders across the globe readjusted their interest bets lower. Adding to the dovish rhetoric on the day were dovish comments from BCB President Campos Neto and a correction lower in international commodity prices.

Against this backdrop, Brazilian swap rates across the curve fell sharply on Monday, with the 2yr and 10yr rates shedding 11bps and 19bps to close the session at 12.41% and 12.03%, respectively. On the front end of the OIS curve, traders increased bets that the BCB will end its tightening cycle next month with one last 100bps rate hike. Options traders are pricing in more than a 90% chance of a 100bps rate hike next month. Meanwhile, traders are pricing in a 33% chance the Selic rate will remain unchanged in June.

Mexico: Though the rally in US Treasury yields subsided yesterday, investors' concerns over global growth offset expectations of faster Federal Reserve policy tightening. As a result, MXN bond yields rose across the curve yesterday. The benchmark 10yr bond yield is now approaching the 9% mark, a level last touched more than three years ago as investors continue to ditch government debt amid lingering concerns that rising food prices and higher interest rates could tip Mexico into a recession. President Obrador’s plans to reduce the prices of Mexican staples will help mitigate some of these concerns as the central bank is primed to raise its overnight interest rate by 50bps in the upcoming May meeting. Note that the central bank has raised its interest rates at its last seven meetings.

Colombia: The Colombian yield curve steepened at the start of the new week, as bonds at the short end of the curve shed from their yields, while long-end tenors added. The short end's decline was consistent with a slight receiver bias in the IRS market ahead of Friday's BanRep policy update, suggesting a rate hike larger than 100bps may come as a shock to the market. The long end's rise, meanwhile, can be explained by the global growth fears that have been driving risk-off sentiment recently. Slower economic growth will weigh on the Colombian government's ability to shore up the fiscus, which explains the rising risk premium.. .

Chile: US Treasury yields are consolidating in the EU session after the rush to safety yesterday saw yields decline across the curve. Investors are still digesting the potential impact of the COVID-19 lockdowns in China on global growth dynamics against a hawkish Fed who remains steadfast in its commitment to reduce inflation.

Inflation is also a domestic concern and this is keeping the front end of both the bond and swap curve offered. The payer interest remains more acute at the front end versus the longer dates and this is keeping inversion trades in focus. 2v10 swap spread is now at -150 bpts after starting yesterday’s session at -144 bpts, we expect the trend to continue for now.

Peru: The selling pressure in Peru's bond market intensified yesterday with yields surging across the board. The gains were between 12bp and 30bp with the curve steepening out as investors remain wary of the local political situation with these concerns being exacerbated by volatility in the global bond markets. Such an intense move could lead to a bit of correction in the near term, but beyond that there is little to suggest that a sustained recovery for local-currency bonds is on the cards unless we see a notable dialling down of political uncertainty.