Itaú BBA - Brazilian yields widen on concerns over the Social Security reform

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Brazilian yields widen on concerns over the Social Security reform

March 22, 2017

In DI Futures, short rates inched down (Oct-17: -1bp to 10.41%) and long rates went up (Jan-19: +4bps to 9.52%).

With information available until 6:30pm Brasilia time

Highlights

  • Long Brazilian yields increased in the session as the government excluded state and municipality-level employees from the Social Security reform (see Macro Backdrop). In DI Futures, while short rates inched down (Oct-17: -1bp to 10.41%), long rates (past Jan-18) went up (Jan-19: +4bps to 9.52%; Jan-21: +6bps to 9.98%). Accordingly, breakevens widened (5-year: +5bps to 4.70%).
  • Markets were cautious ahead of the US Lower House vote on the Healthcare bill proposed by the Trump administration. In LatAm FX, Andean currencies were the laggards (CLP: -0.57% to 662.82/USD; COP: -0.12% to 2,921.24/USD), while the BRL stood flat at 3.09/USD. In contrast, the MXN gained 0.16% to 19.07/USD.

Macro Backdrop

BRAZIL
  • As expected, IPCA-15 rose 0.15% – lowest March reading since 2009. The result was in line with our estimate (0.15%) and the median of market expectations (0.14%). The index had climbed 0.54% in the previous month and 0.43% in March 2016. Hence, the IPCA-15 went up 1.0% in 1Q17 (1Q16: 2.79%), while the year-over-year change decelerated to 4.73% (February: 5.02%). Breaking down by product groups, the largest upward contributions during the month came from housing (0.10 p.p.), healthcare and personal care (0.05 p.p.), and education (0.04 p.p.). The biggest contribution to the housing group came from electricity (0.08 p.p.), reflecting the switch to yellow from green flag in the tariff flag system early in the month. On the other hand, transportation (-0.03 p.p.), household items (-0.01 p.p.) and communication (-0.01 p.p.) posted negative changes.
  • Based on the IPCA-15 report and other current information, we maintain our forecast for the headline IPCA in March at 0.27%, with the year-over-year change slowing down to 4.60% from 4.76% in February. In our view, the largest upward contributions will come from housing and food prices. In the housing group, most of the impact will come from electricity bills, reflecting the full effect of the yellow flag, announced early in the month. As for food, after a 0.45% decline in the previous month, the group is likely to post a positive reading, pressured by prices for milk, tubercles, roots and legumes, and food away from home. On the other hand, transportation, communication and household items are set to post negative results. In the transportation group, in addition to lower airfares, the decline in fuel prices will be sharper than registered by the IPCA-15 report. Full Report
  • In a speech Tuesday, President Michel Temer said that the Social Security reform shall exclude state and municipality-level employees. The government assesses that the exclusion will facilitate the approval of the rest of the proposal. If indeed this was the important hurdle, and from now on the reform will pass the next stages in Congress without major changes, we can remain with a positive view on the final result. However, it is important to highlight that the government loses an important argument of this reform, namely it would set equal conditions for all Brazilians.
  • What about the impact on fiscal spending coming from this change? We calculate that the full reform will cut social security expenditures for the federal government by 1.6% of GDP in the next 10 years. The change announced Tuesday has no impact since it excludes only regional government personnel. If the reform passes for the federal government without major changes, we continue to see high chances of the federal government being able to respect the spending cap for 10 years, and gross public debt stabilizing at around 78-80% of GDP.
  • BCB placed the full offering of 10,000 FX swaps. After closing, the Central Bank called a roll over auction of up to 10,000 contracts on March 23.
Market Developments 
  • GLOBAL MARKETS: Markets were cautious ahead of the US Lower House vote on the Healthcare bill proposed by the Trump administration. US Treasuries fell: the 5-year decreased 1bp to 1.93% and for the 10-year went 2bps down to 2.40%. Global Markets Tracker
  • CURRENCIES & COMMODITIES: Oil dropped (Brent: -0.5% to USD 50.70/bbl), as DOE report showed crude stockpiles rose and U.S. production increased for the fifth week. In LatAm FX, Andean currencies were the laggards (CLP: -0.57% to 662.82/USD; COP: -0.12% to 2,921.24/USD), while the BRL stood afloat at 3.09/USD. In contrast, the MXN gained 0.16% to 19.07/USD. FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: LatAm credit spreads for the 5-year tenor increased on average. Chilean and Mexican spreads stood flat at 79bps and 144bps, respectively. However, Colombian country risk deteriorated 2bps to 148bps. Brazil CDS increased the most in the region, for the third consecutive day, to 241bps (+4bps). External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: Long Brazilian yields increased in the session as the government excluded state and municipality-level employees from the Social Security reform (see Macro Backdrop). In DI Futures, while short rates inched down (Oct-17: -1bp to 10.41%), long rates (past Jan-18) went up (Jan-19: +4bps to 9.52%; Jan-21: +6bps to 9.98%). Accordingly, breakevens widened (5-year: +5bps to 4.70%). Brazil Rates Tracker
  • LOCAL RATES - Mexico: The Mexican curve bull flattened tracking US Treasuries. In TIIE swaps, the 1-year fell 1bp 7.12% and the 10-year decreased 5bps to 7.59%. Mexico Rates Tracker
  • LOCAL RATES – Chile and Colombia: In Chile, short yields were broadly flat and long (past 3-year) traded lower. In Camara swaps, the 9-month stood flat at 2.86% and the 5-year decreased 5bps to 3.59%. Chile Rates Tracker In Colombia, rates also traded lower in the session. In IBR swaps, the 2-year fell 8bps to 5.31% and the 5-year fell 4bps to 5.54%. Colombia Rates Tracker

Upcoming Events

  • In Brazil, FGV’s industrial business confidence preview for March will be released (Thu.). We expect a 2.5% m/m rise in seasonally adjusted terms, consistent with the 2.9% rise in the CNI confidence release. Moreover, external accounts data will be published (Fri.). We expect a current account surplus of USD 400 million in February, above the USD 1.9 billion deficit in the same month last year. Also, we expect direct investment in the country (former FDI) to sum up to USD 4.5 billion in February. Finally, February’s tax collection may be released sometime during the week. We forecast BRL 93 billion in tax collections, or a 1.1% increase in real terms. 
  • In Mexico, the statistics institute (INEGI) will publish CPI inflation figures for the first half of March (Thu.). We expect bi-weekly inflation to advance 0.25%, driven by the lagged effects of the Mexican Peso’s depreciation and higher agricultural prices, partly offset by a decrease of gasoline prices. Assuming our forecast is correct, headline inflation would post 5.18% year-over-year in the first half of March (up from 5.02% in the second half of February). Then, INEGI will announce the growth rate of January’s retail sales (Fri.), which we forecast at 7% y/y (December: 9%).
  • In Colombia, the highlight of the week will be central bank’s monthly monetary policy meeting (Fri.). We believe the conditions are conducive for the central bank to speed up the easing process by cutting the policy rate by 50 basis points to 6.75%. Then, Fedesarrollo will publish the February retail and industrial confidence levels (Thu.). We expect confidence levels to be strained ahead as economic activity remains at low levels. Moreover, the January activity coincident indicator (ISE) will be published (Fri.). As the economy adjusts to the terms of trade shock, growth decelerated in 2016 (December 2016: 1.0% y/y).

Latam Macro Calendar

For details, refer to our Monthly Strategy Report.

Today's editors: Eduardo Marza, Pedro Correa



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