Itaú BBA - Brazilian yields narrow as IPCA expectations for 2017 recede

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Brazilian yields narrow as IPCA expectations for 2017 recede

February 6, 2017

In rates, the DI Futures curve bull-flattened slightly (Jan19x26: -3bps), following the downward revision in inflation expectations.

With information available until 6:30pm Brasilia time


  • In rates, the DI Futures curve bull-flattened slightly (Jan19x26: -3bps), following the downward revision in inflation expectations (see Macro Backdrop). The Jan-19 narrowed 1bp to 10.23%. The curve fully prices-in 350bps in rate cuts up to YE18. In Colombia, IBR swaps bear-flattened (1s10s: -3bps), as inflation surprised the market to the upside (see Macro Backdrop).
  • Most LatAm currencies weakened, after poll data in France increased risk aversion in global markets. The MXN was the laggard (-1.11% to 20.59/USD), followed by the CLP (-0.23% to 640.29/USD). The COP depreciated 0.16%, tracking oil losses, whereas the BRL bucked the regional trend (+0.12% to 3.1193/USD).
  • Mexican fixed income markets were closed due to national holiday.

Macro Backdrop

  • Auto production surprised to the downside. According to Anfavea, production reached 174k in January. This implies a decrease of 12.8% m/m, weaker than we expected (-9.0%). Exports decreased 7.8%, but remains on a high level. Our preliminary projection for January industrial production is 0.7% m/m.
  • Retail activity for January came in line with the expected. According to Serasa data and our calculation, retail activity increased 0.4% m/m in January. Along with other economic activity data, we forecast a 0.2% increase for core retail sales (PMC) in January. For December, we forecast an 1.9% m/m drop.
  • Inflation expectations for 2017 receded. According to BCB’s Focus survey, inflation expectations for 2017 inched down to 4.64% (-6bps) and remained anchored at 4.5% for 2018 onwards. The median of professional forecasters’ expectations for the Selic policy rate stood flat at 9.50% for YE17 and at 9.00% for YE18. The market now expects a slightly stronger BRL in YE19: 3.57/USD (from: 3.58/USD). The median of GDP growth expectations for 2017 was downwardly revised to 0.49% growth (from: 0.50%). Forecasts for 2018 improved to 2.25% (from: 2.20%), and those for 2019 remained unchanged at 2.50%. See BCB Report
  • In spite of the December monthly activity data upside, the low-growth scenario encompassing the Chilean economy is reinforced. Mining remains the main drag on activity, but non-mining data is fragile, raising risks that an economic recovery is stifled. The monthly GDP proxy (Imacec) increased 1.2% y/y in December, above the consensus (1.0%), after an increase in November (0.8%). The reading was due to the 3.0% y/y drop in mining (previous: +2.2%), partly compensated in the month by the 1.6% rise in non-mining activity (previous: 0.6. At the margin, activity contracted in 4Q16. The Imacec index came in at -1.0% q/q saar (3Q16: +2.3%). The data is in line with our view that the economy expanded 1.5% in 2016, a slowdown from the 2.3% in 2015. The national accounts data (out in March 20) will confirm our assessment.
  • Looking ahead, activity in 1Q17 will likely remain suppressed, in spite of a favorable carry-over effect. The lack of a business confidence recovery, the likely occurrence of a significant mining strike this month, and the impact from the wildfires on the forestry industry will all be a burden to activity. While we expect an activity recovery this year to 2.0%, due to higher average copper prices, declining inflation, lower interest rates, uncertainty on the local political stage could hamper a private sentiment recovery, stifling an investment bounce-back. Full Report
  • CPI continued to decelerate in January. Prices gained 1.02% m/m, below our expectations (1.21%) but surpassing the consensus’ (0.9%). The monthly gain was lower than the one recorded one year before (1.29%), but still higher than in recent years as supply-side shocks that affected prices in 2016 continue to have some impact on price gains, and the effects of the tax reform continue to materialize. The 1.62% food price gain led the monthly reading (0.48pp contribution), followed by housing related expenses (+0.71%, 0.22pp contribution). The resulting 12-month inflation decelerated to 5.47% (5.75% at the close of 2016 and 7.45% one year before), slowly advancing towards the central bank’s 2-4% target range. Tradable goods prices (excluding food items) gained 5.37% from one year before (5.31% in December) as past depreciation of the COP continues to impact prices gains. Meanwhile, non-tradable goods prices (also excluding food) are closer to the upper bound of the target range at 4.83% (4.85%). Food prices only gained 5.97% from one year before (December: 7.22%) as the effects of supply-side shocks unwind. We expect inflation to reach 4.3% by yearend also aided by a more stable currency, the unwinding of the El Niño and a weak domestic demand. The central bank is expected to continue with the loosening cycle that began last December, but the timing of the next move will depend on incoming data. Full Report
  • Banrep’s Inflation Report shows the board acknowledges the need for an easing cycle, but its focus will be on ensuring that inflation and inflation expectation record a robust reversion to the target. Governor Echavarría notes that although internal forecasts put inflation very close to 4% by yearend (at the January meeting he said there was a 40%-50% change of reaching the target), there is concern that market analysts don’t expect this (4.5% in the last survey). The inflation forecast for 2017 has risen compared to the previous report that had yearend inflation around 3.8%. We believe that difference can be mainly directed to the VAT rate increase. Overall, the Governor acknowledges that a rate cut cycle is needed in the grand scheme of things, but the timing for these cuts will likely only come once inflation expectations anchor. We expect the board to remain cautious in the coming months as inflation prints reflect the one-off impact of the VAT rise. Thereafter, as inflation cools and 1-year forward expectations center in the target range, easing will likely unfold. Hence, we see the policy rate ending the year above our current 5.5% forecast. Full Report Below

Market Developments

  • GLOBAL MARKETS: Risk aversion increased, following recent poll data regarding the French elections. On the back of safe-haven demand, both U.S. Treasuries (10-year) and long EONIA rates narrowed 5bps to 2.42% and 0.56%, respectively. Global Markets Tracker
  • CURRENCIES & COMMODITIES: In Commodities, WTI fell 1.39% to USD 53.08/bbl, as Baker Hughes data show another increase in U.S. oil rigs. In contrast, copper was firm on the green (1.30%) as the market increased the odds of strike in the world’s biggest copper mine. LatAm currencies were hurt by the increased risk aversion overseas. The MXN was the laggard (-1.11% to 20.59/USD), followed by the CLP (-0.23% to 640.29/USD). The COP weakened 0.16%, tracking oil losses, whereas the BRL bucked the regional trend (0.12% to 3.1193/USD). FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: LatAm credit spreads widened (except for Peru). For the 5-year tenor, Brazil increased 1bp to 240bps. Colombian spreads went up to 146bps (+1bp) and Chilean went to 77bps (+1bp). Mexican risk premium advanced to 157bps (+1bp). External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: The DI Futures curve bull-flattened slightly (Jan19x26: -3bps), following the downward revision in inflation expectations (see Macro Backdrop). The Jan-19 narrowed 1bp to 10.23%. The curve fully prices-in 350bps in rate cuts up to YE18. Brazil Rates Tracker
  • LOCAL RATES - Mexico: Markets were closed due to national holiday. 
  • LOCAL RATES – Chile and Colombia: Chilean rates edged higher. In Camara swaps, the 5-year increased 2bp to 3.61%. Chile Rates Tracker In Colombia, the IBR swaps curve bear-flattened (1s10s: -3bps), echoing the inflation upside surprise (see Macro Backdrop). The 10-year IBR swaps went up 2 bps to 6.38%. Colombia Rates Tracker

Upcoming Events

  • In Brazil, January’s IPCA consumer inflation (Wed.) will be on focus. We forecast an inflation of 0.43% m/m, this means that, in annual terms, inflation will set back to 5.4% from 6.3% in December. Two industry indicators may be released: paper cardboard dispatches (ABPO) and heavy vehicle highway traffic (ABCR). In Congress, the Special Committee that will discuss and analyze the Social Security Reform proposal may be formed throughout the course of the week.
  • In Mexico, the INEGI (the statistics institute) will announce January’s inflation (Thu.). We expect the headline to accelerate to 4.73% y/y. Also, the Central Bank’s board will meet to decide on the reference rate (Thu.). We believe the Banxico will hike 50bps, taking the reference rate up to 6.25%. Moreover, INEGI will also publish December’s industrial production (Fri.), which we expect to contract -0.3% y/y. Finally, the ANTAD (National Association of Department Stores and Supermarkets) will announce January’s same-store-sales (Fri.). We forecast sales to grow 6% y/y.
  • In Chile, the central bank will publish January’s trade balance (Tue.). We forecast a USD 590 million surplus. Moreover, the National Institute of Statistics (INE) will publish (Tue.) nominal wage growth for December. The INE will also publish (Wed.) inflation data for January. We expect an inflation of 2.5% y/y (December: 2.7%).
  • In Colombia, the Banrep will release (Fri.) the monetary policy minutes from January. The minutes could provide insight on which conditions Banrep is monitoring before resuming the easing cycle.

Latam Macro Calendar

For details, refer to our Monthly Strategy Report.

Today's editors: Eduardo Marza, Pedro Correa

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