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Brazilian rates narrow on lower Selic expectations

July 10, 2017

Long Brazilian yields narrowed as professional forecasters reduced Selic projections for 2017, 2018 and 2019.

With information available until 6:30pm Brasilia time

Highlights

  • Long Brazilian yields narrowed as professional forecasters reduced Selic projections for 2017, 2018 and 2019 (see Macro Backdrop). In DI futures, while short rates (until Apr-18) were broadly stable (Oct-17 flat at 9.27%), long ones went down (Jan-21: -5bps to 9.96%). Likewise, breakevens narrowed as the 3-year fell 4bps to 4.34%.
  • In FX, LatAm currencies outperformed (LatAm FX: +0.72%). The MXN is trading 0.78% stronger to 17.95/USD. The COP posted gains of 0.85% to 3,062.23/USD and the CLP appreciated 0.11% to 666.54/USD. The BRL closed at 3.2557/USD (+0.78%). 

Macro Backdrop

BRAZIL
  • Low Selic rate expectations ahead. According to Focus survey, year-end Selic expectations receded 25bps for the three years horizon (2017 to 2019) to 8.25% for 2017, 8.00 for 2018 and 8.25% for 2019. IPCA inflation expectations for 2017 dropped to 3.38% (-8 bps), and to 4.24 (-1 bps) by 2018YE. The BRL stood flat for 2017 at 3.35/USD, while it has slightly depreciated for 2018: to 3.45/USD by 2018YE (from 3.40/USD), and for 2019 to 3.50/USD (from 3.49/USD). GDP growth expectations inched down to 0.34% (from 0.39%) for 2017, and remained stable for 2018 (2.00%) and 2019 (2.50%). See BCB Report
  • Traffic of heavy vehicles slightly above expectations in June. According to ABCR, traffic of heavy vehicles fell 1.4% mom/sa in June (our seasonal adjustment), following a 4.1% gain in the previous month and slightly above our expectation. We believe that issues in the seasonal adjustment explain the monthly decline, so the positive trend in the 3-month moving average (up 0.6% qoq) is a better proxy for the underlying trend. In other words, the seasonal adjustment probably overestimated growth in May and underestimated the June figure. We revised upward our forecast for June industrial production to -0.1% mom/sa (from -0.2%). 
  • Federal Deputy Sergio Zveiter read his report on the Lower House’s Constitutional and Judicial Committee (CCJ). The deputy recommended the charges against President Temer to be accepted by the Lower House. 
  • The BCB placed the full offering of 8,300 FX swaps. After closing, the central bank announced another roll over auction of up to 8,300 contracts (USD 415 million) on July 11.
ARGENTINA
  • Wage negotiation season is almost finished. The adjustments averaged 21%, according to the Ministry of Labor, a figure higher than the inflation-range target set for the year (12%-17%).  We note certain disparities. Most unions agreed to adjustments between 23%-24%, which is a figure consistent with our inflation forecast (22%) for this year.  A common feature of the agreements was the introduction of inflation-adjustment clauses. If inflation exceeds a certain threshold in a certain period of time, wages are adjusted immediately by this difference. Forward-looking behavior in wage negotiations is still to be proved. While it is true that the adjustments were lower than the inflation registered in 2016 (40% in the City of Buenos Aires), it’s still unclear whether workers have negotiated the adjustments looking at the expected 2017 inflation or looking at the (annualized) inflation registered in the previous quarter or half year. 
  • Looking ahead, we expect the government to encourage agreements based on a similar format. The central bank set a target range of 8%-12% for 2018. In the case of public employees, we expect the government to offer a proposal in the range of 12% + inflation-adjustment clauses. The success of this initiative will depend, in our view, on the capacity of the central bank to bring down inflation to 1% mom, a figure not very different from the annualized 12% on which the inflation target is based. We believe, in any case, that the 2018 inflation target is a challenging one. Besides changes in wage levels (backward- vs. forward-looking guidance), we note that regulated prices (energy) will likely need further adjustments, as will other services that had not been increased in 2017. The adjustments in transportation fares will not likely be postponed in 2018, as they have been in 2017. We expect inflation to decline in 2018 to 16%.
Market Developments 
  • GLOBAL MARKETS: Equity markets were strong on the green and volatility measures receded. Global Markets Tracker
  • CURRENCIES & COMMODITIES: Commodities strengthened at the margin. Oil prices went up (WTI: +0.75% to USD 44.56/bbl). Also, metals posted gains as the copper increased 0.19% and iron ore +0.71%. In FX, LatAm currencies outperformed (LatAm FX: +0.72%). The MXN is trading 0.78% stronger to 17.95/USD. The COP posted gains of 0.85% to 3,062.23/USD and the CLP appreciated 0.11% to 666.54/USD. The BRL closed at 3.2557/USD (+0.78%). FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: Country risk narrowed all across LatAm. For the 5-year tenor, Chilean and Colombian spreads inched down 1bp to 66bps and 141bps, respectively. In Mexico, CDS fell 2bps to 112bps and in Brazil they went down 4bps to 238bps. External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: Long Brazilian yields narrowed as Selic expectations receded for 2017, 2018 and 2019 (see Macro Backdrop). In DI futures, while short rates (until Apr-18) were broadly stable (Oct-17 flat at 9.27%), long ones went down (Jan-21: -5bps to 9.96%). Likewise, breakevens narrowed as the 3-year fell 4bps to 4.34%. Brazil Rates Tracker
  • LOCAL RATES - Mexico: The Mexican curve bull flattened slightly in the session. In TIIE swaps, the 1-year fell 1bp to 7.25% and the 5-year went down 4bps to 6.80%. Mexico Rates Tracker
  • LOCAL RATES – Chile and Colombia: In Chile, rates narrowed 3-5bps still on the downward CPI surprise and as the government downgraded 2017 GDP growth forecast. Finance Minister Rodrigo Valdes presented the revised forecast (1.5% vs. 2.25%) to the Senate Finance Commission. In Camara swaps, the 1-year fell 3bps to 2.34% and the 5-year went down 4bps to 3.38%. Chile Rates Tracker In Colombia, rates fell, tracking core yields. In IBR swaps, the 9-month fell 1bp to 5.06% and the 5-year narrowed 4bps to 5.48%. Colombia Rates Tracker

Upcoming Events

  • In Brazil, the case against President Temer is likely to dominate the debate in the Lower House, and may possibly be voted by the Committee before the end of the week. In the meantime, the Senate is expected to approve the labor reform (Tue.). On the macro agenda, the key releases for the week will be May’s retail sales (Wed.) and the Service Sector Survey (PMS) (Thu.). We forecast a 0.1% decline in core retail (month-over-month, seasonally adjusted), and a 0.9% drop in the broad segment, which includes vehicle sales and construction material. May’s PMS is also relevant for 2Q17 GDP estimates - we expect the headline to fall 2.3% year-over-year. Furthermore, the BCB will release its monthly activity index (IBC-Br) for May (Fri.). Also, IBGE will release the monthly update of its Systematic Survey of Agricultural Production (Tue.).
  • In Mexico, the National Association of Department Stores and Supermarkets (ANTAD) will announce June’s same-store-sales (Tue.). We expect the growth of ANTAD sales to slow down moderately (to 5% year-over-year, from 5.7% in May). Then, the statistics institute (INEGI) will publish May’s industrial production (Wed.). We expect industrial production growth to pick up to 0.1% year-over-year (from a 4.4% contraction in March), led by stronger manufacturing output. In fact, several coincident indicators of the manufacturing sector – mainly, manufacturing exports, vehicle production, PMI – strengthened in May. Conversely, we expect a contraction of construction output, considering the sharp fall of public investment in May (physical capital investment down by 23.9% year-over-year in real terms). Also, we already know that oil output continued contracting. 
  • In Chile, the central bank will hold its July monetary policy meeting (Thu.). In spite of weak activity and surprisingly low inflation in the month, we believe the board will once again stay on hold this month as it opts to evaluate how the economy unfolds given the monetary stimulus already implemented (100bps in cuts since January).
  • In Colombia, activity indicators for the month of May will be published (Fri.). We expect industrial production to increase 2.0% year over year (-6.8% in April). Meanwhile, retail sales likely saw growth of 1.4% in twelve months (-2.0% previously), boosted by car sales. Heavy rains and a port strike could have hampered activity in the month. Also, the central bank of Colombia will release the minutes of the monetary policy meeting held in June (Fri.). At the meeting, another split board decided to cut the policy rate by 50bps to 5.75%, more aggressive than the 25bp cut in the previous month. It will be of interest to see if the minutes reiterate recent comments from the central bank’s general manager, as well as the finance minister, who have both indicated that room for further easing is narrowing.
  • In Argentina, the INDEC (the official statistical agency) will publish the CPI for June (Tue.). In addition to the current index (which covers the Greater Buenos Aires area), INDEC will release a national CPI, which will also be the target of the central bank. According to private surveys, headline inflation in the Greater Buenos Aires area hit 1.4% mom (22% yoy), while the core measure was above the headline level. We do not expect the National CPI to deviate significantly from inflation in the Greater Buenos Aires area. Then, the central bank will hold its biweekly monetary policy meeting, to decide on the reference rate (Tue.). We expect prices to remain under pressure on July due to adjustments in fuel and health prices and the recent depreciation of the peso. Given these developments, we do not expect a rate cut in July. 

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Today's editors: Eduardo Marza, Pedro Correa




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