Itaú BBA - IPCA anchors front end, long DI futures sell off on external scenario

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IPCA anchors front end, long DI futures sell off on external scenario

November 10, 2017

Long Brazilian yields widen in tandem with core yields.

With information available until 6:30pm Brasilia time

Highlights

  • Long Brazilian yields widen in tandem with core yields. In DI futures, while the long end went up around 12bps (Jan-25: +12bps to 10.48%), the front end narrowed at the margin (Mar-18: -2bps to 7.03%) as inflation came in below expectations (see Macro Backdrop). 
  • In FX, the BRL was the laggard within the majors, closing at 3.2837/USD (-1.01%); the MXN is trading at 19.0913/USD (-0.24%). On the other hand, Andean pairs were broadly stable (CLP: -0.02% to 630.92/USD; COP: +0.14% to 3,008/USD).
  • Our IBR 18m receiver profited after Banrep surprised the market by cutting the policy rate by 25bps to 5.0%, while the majority of the analysts expected the central bank to remain on hold until early-2018. In our Strategy Monthly report, we argue the trade performance will improve ahead. 

Macro Backdrop

BRAZIL
  • IPCA climbs 0.42% in October, led by regulated prices. The figure came in below our call (0.50%) and the median of market expectations (0.49%). The index had risen 0.16% in the previous month and 0.26% in October 2016. Year-to-date, the IPCA climbed 2.21%, down significantly from 5.78% in the year-earlier period. Meanwhile, the year-over-year change accelerated to 2.70% from 2.54% in September. Breaking down by product groups, the largest upward contribution during the month came from housing (0.21 p.p.), led by electricity (3.3%) and bottled cooking gas (4.5%), which impacted monthly inflation by 0.12 p.p. and 0.06 p.p., respectively. On the opposite end, household items (-0.02 p.p.) and food and beverages (-0.01 p.p.) posted negative changes. 
  • Our preliminary estimate for the IPCA in November is a 0.50% increase, pushing the year-over-year change up again to 3.0%. Regulated prices will give the biggest upward contribution during the month, due to additional price hikes for electricity, gasoline and bottled cooking gas. For the full year, we forecast a 3.2% advance in the IPCA vs. 6.3% last year. Full Report
  • Fitch affirmed Brazil´s Long-Term Foreign Currency rating at BB with a negative outlook. In the release, the agency cited that “Brazil's ratings are constrained by the structural weaknesses in its public finances and high government indebtedness, weak growth prospects, and weaker governance indicators compared with peers”. Additionally, Fitch said that “the country's capacity to absorb shocks is underpinned by its flexible exchange rate, robust international reserves position, a strong net sovereign external creditor position, and deep and developed domestic government debt markets. The agency concludes by stating that “an improved policy environment, reduced external imbalances, and the passage of some microeconomic reforms in recent months are supportive of the credit profile”.

COLOMBIA

  • The minutes of the October monetary policy meeting reaffirm that the 25-bp cut was a response to a sequence of negative inflation surprises and an improved inflation outlook. Five board members voted for the decision, while the remaining two favored staying on-hold. The board agreed with the technical team’s view that the probability inflation reaches the 3% inflation target in 2018 has increased. In any case, future rate cuts (we still expect two 25-bp cuts to 4.5% before the cycle ends) will be very much data dependent. 
  • Given the better evolution of inflation and the fact that the economic recovery is still incipient, the risks are tilted to a deeper easing cycle than our 4.5% expectation. Additionally, we cannot rule out a cut at this month’s meeting, as October’s CPI (published after the last policy meeting) came in below expectations and the minutes show some within the majority camp favor a more aggressive monetary policy action. 
  • Activity showed mixed signs in the month of September, with improvements in retail sales while manufacturing remained weak; however, quarterly figures still show a recovery versus 1H17. Retail sales gained 1.4% year over year in September (-1.1% in August), between the market consensus of 1.0% and our 1.9% forecast. Meanwhile, industrial production contracted 1.9% (-2.9% previously), weaker than our -1.5% expectation and the market consensus of a 1.0% drop. However, in the third quarter of the year, activity indicators are consistent with an expected recovery in the 2H17. We expect GDP growth of 2.4% in 3Q17 (to be published November 15), picking up from the 1.3% posted in 2Q17.
  • We expect activity to improve in 2H17, leading to growth of 1.6% for the year (2.0% last year), and 2.5% for 2018. Higher real wages (as inflation falls) and lower interest rates will likely support a further recovery of consumption, while a favorable external environment aids a manufacturing improvement. 

Market Developments 

  • GLOBAL MARKETS: Long US Treasury yields widened substantially (10-year: 6bps to 2.40%) even though the dollar and equity markets were under pressure for a second day, as investors maintained focused on the debate in Washington over a tax overhaul, according to the WSJ. Global Markets Tracker
  • CURRENCIES & COMMODITIES: Commodities were mixed in the session again. Oil posted losses (WTI: -0.54% to USD 57.08/bbl) after Baker Hughes´s report showed US oil rigs increased by 9 this week. Meanwhile, agriculture commodities strengthened (wheat: +0.64%; corn: +0.66%). LatAm FX was also mixed in the session. The BRL was the laggard within the majors, closing at 3.2837/USD (-1.01%); the MXN is trading at 19.0913/USD (-0.24%). On the other hand, Andean pairs were broadly stable (CLP: -0.02% to 630.92/USD; COP: +0.14% to 3,008/USD). FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: Credit spreads (5-year) were mixed in LatAm. In Brazil, CDS increased 3bps to 180bps and in Colombia they widened 1bp to 123bps. On the other hand, Chilean and Mexican spreads were stable at 53bps and 110bps, respectively. External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: Long Brazilian yields widen in tandem with core yields. In DI futures, while the long end went up around 12bps (Jan-25: +12bps to 10.48%), the front end narrowed at the margin (Mar-18: -2bps to 7.03%) as inflation came in below expectations (see Macro Backdrop). Brazil Rates Tracker
  • LOCAL RATES – Mexico: Mexican yields widened, pressured by rising US Treasuries. In TIIE swaps, the 9-month increased 3bps to 7.54% and the 5-year went up 6bps to 7.29%. Mexico Rates Tracker
  • LOCAL RATES – Chile and Colombia: The belly of the Chilean curve widened in the session. In Camara swaps, the 18-month went up 3bps to 2.62%. Conversely, short real rates fell substantially (Aug-18: -13bps to 1.01%). The Colombian curve steepened in the session. Chile Rates Tracker In IBR swaps, while short rates fell 1-2bps, the long end widened (10-year: +2bps to 6.26%). Colombia Rates Tracker

Upcoming Events

  • In Brazil, October’s CAGED formal job creation may come through. We forecast a net creation of 17k jobs (+11k jobs in seasonally adjusted terms). On economic activity, the key releases will be September’s retail sales (Tue.) and the Service Sector Survey, PMS (Fri.). We expect a 0.7% mom/sa increase in both core and broad retail sales. For September’s PMS, we expect the headline to fall 2.4% yoy. Markets will also focus on the discussions involving the social security reform, as the government has been negotiating with lawmakers an alternative version to the rapporteur’s (Arthur Maia) proposal.
  • In Chile, the BCCh will hold its monthly monetary policy meeting (Tue.). We expect the central bank to hold the policy rate at 2.5%, while retaining an easing bias.
  • In Colombia, the trade balance for the September will be published (Tue.). We expect a trade deficit of USD 280 million. Then, the national statistics authority will publish the supply-side breakdown of GDP growth for 3Q17 (Wed.). We estimate activity increased 1.0% from the previous quarter. Furthermore, think-tank Fedesarrollo will release the October consumer confidence (Fri).
  • In Argentina, the INDEC (the official statistical agency) will publish the National CPI for October (Tue.). We adjusted recently our 2017 inflation forecast to 23% from 22% previously, above the target range set by the central bank for this year (12-17%).

For details on Brazilian markets, refer to our Handbook - First edition.

Today's editors: Eduardo Marza, Pedro Correa



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