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LatAm FX rally on positive external events

February 10, 2017

The BRL reached a year-to-date low of 3.1151/USD, boosted by the rise in iron ore prices.

With information available until 6:30pm Brasilia time


  • Risk appetite increased amid positive signs from the US and strong Chinese trade data. Volatility went down, equity markets posted widespread gains and commodities have rallied.
  • Amid a firm day for EM FX, all the currencies under our coverage appreciated. The CLP increased to 639.85/USD (+0.97%), due to the copper rally (+4.45%), the COP traded at 2,853.98 (+0.23%) supported by oil (Brent: +1.80%). The BRL reached a year-to-date low of 3.1151 (+0.39%), boosted by the rise in iron ore prices (+4.86%). The MXN was the regional laggard, strengthening to 20.33/USD (+0.10%).

Macro Backdrop

  • S&P affirmed their long-term foreign and local currency sovereign credit ratings at 'BB' and kept the outlook negative. The negative outlook reflects the risk that the government's strategy to stabilize the economy and its fiscal position could be undermined by “fluid political dynamics following three years of recession”. 
  • Traffic of heavy vehicles decreased 2.3% m/m in January, according to ABCR Highway Transportation Report. Along with other coincident indicators, we changed our forecasts for industrial production in January to 0.1% m/m (from: 0.7%).
  • Declining oil production offsets the improvement in exports. Industrial production fell 0.1% m/m in December, better than both our forecast (-0.3%) and consensus (-0.3%). Relative to 4Q15, industrial output in 4Q16 was flat at 0.7% (3Q16: 0.5%). Industrial activity was dragged down by oil production, given activity in the mining sector fell -1.4% m/m in December and in 4Q16 fell -10.4% - the fifth consecutive quarterly contraction. However, higher US industry growth and a more competitive exchange rate are benefiting the manufacturing sector, which increased 0.6% m/m in December, consistent with the 11.2% q/q gain in manufacturing exports during 4Q16. In 2017, we expect the manufacturing sector to continue to perform well and, in the medium term, the energy reform will likely boost oil production, which will help to limit the economic slowdown. Yet, mining production will probably continue to decline due to budget constraints of Pemex. Full Report
  • Banxico decided to hike the reference rate by 50bps, as we expected. The board raised the reference rate to 6.25% from 5.75%, underscoring its commitment to keep long-term inflation expectations well-anchored. The decision was in line with the majority view, but several analysts were expecting a less aggressive move, probably because the economic outlook has deteriorated. In contrast to its previous outlook, the board now expects inflation to stay above the tolerance range (2%-4%) throughout 2017, and converge to close to 3% in 2018. Moreover, the communiqué mentions (twice) that the board will deliver the hikes that “are necessary in 2017” and includes the potential second-round effects from higher gasoline prices amongst the variables the Central Bank is monitoring (together with inflation expectations, exchange-rate pass-through, the rate differential with the US, and the output gap). We expect the central bank to take the reference rate to 7.0% before the end of this year, with three 25-bp rate hikes following each move of the same magnitude by the Fed. However, depending on the evolution of inflation, inflation expectations and of the MXN, we can’t rule out a hike before the Fed moves. Full Report
  • Banrep’s minutes suggest that in the short-term the majority of the board will commit to ensuring that inflation and inflation expectations record a robust reversion to the target. The minutes of the January monetary policy meeting reveal that within the majority of the board, future rate cuts should be subject to the evolution of inflation expectations and the speed of inflation’s convergence to the target. In contrast, the minority emphasized that the risk of an excessive deceleration of domestic demand growth had increased. Additionally, since the previous meeting, the board notes that global uncertainty has increased, while activity has been weaker than initially expected. Overall, there is broad acknowledgment of the need for an easing cycle amid a negative output gap and reverting inflation, but the rise of inflation expectations has likely delayed further rate cuts.
  • We also see the need for easing ahead, but the timing of the next rate hike will depend on inflation and inflation expectations. We expect the upcoming February inflation to reflect the one-off impact from the tax reform’s VAT hike. Taking this into consideration and the fact that 2017 inflation expectations remain beyond 4%, we expect the committee to remain cautious in the coming months. However, given the negative output gap and the historically high real interest, Banrep will be vigilant not to suffocate the economy. Hence, as inflation cools in the months ahead and the monetary policy horizon shifts to 2018, easing will likely unfold. We see the policy rate ending the year at 5.5%, with the majority of the rate cuts coming in 2H17. Full Report Below

Market Developments 

  • GLOBAL MARKETS: Risk appetite increased as the US policy debate seems to be turning to the (pro growth) tax reform agenda and away from protectionist trade and immigration. Reduced volatility and equity markets strong on the green, favored by exports/imports data in China. Also, China’s data on key commodity imports (quantum) showed strong figures in January. In general, reduced geopolitical concerns regarding a trade war between the US and Asia. According to the International Energy Agency, OPEC achieved the best compliance rate in its history, pushing oil prices up. Global Markets Tracker
  • CURRENCIES & COMMODITIES: Commodities traded higher (CRB futures index: +0.67%). Brent went up to 56.63/USD (+1.80%), amid OPEC’s compliance. Due to China’s favorable data release, the Iron Ore increased to 84.43/USD (+4.86%). Also, the Copper traded higher, reaching 277.15/USD (+4.45%), as the wage negotiations at Chilean biggest copper mine reached a standstill. A firm day for LatAm currencies, as all the currencies under our coverage appreciated. The CLP increased to 639.85/USD (+0.97%), due to the copper appreciation, the COP hit the mark of 2,853.98 (+0.23%) supported by the Brent, and the BRL appreciated to 3.1151 (+0.39%), following the rise in iron ore prices. The MXN was the regional laggard, going up to 20.33/USD (+0.10%). FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: The 5-year tenor credit spreads fell all over LatAm, except for Chile. In Mexico and Colombia, they tightened to 152bps (-3bps) and 144bps (-3bps), respectively. Brazilian CDS fell the most, like yesterday, trading at 230bps (-4bps). In Chile, it stood flat at 77bps. External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: Yields traded lower. In DI Futures, the Jan-19 fell 6bps to 10.08% and the Jan-21 fell 4bps to 10.27%. By YE17, the curve implies roughly 335bps in rate cuts. Brazil Rates Tracker
  • LOCAL RATES - Mexico: The Mexican curve bear-flattened again (1s10s: -6bps), still adjusting to Thursday’s Banxico meeting (see Macro Backdrop). In TIIE swaps, the 1-year widened 7bps to 7.23% and the 5-year went up 3bps to 7.62%. The curve implies roughly 145bps in rate hikes for 2017. Mexico Rates Tracker
  • LOCAL RATES – Chile and Colombia:  Camara rates traded range bound. The 1-year went up 1bp to 2.96%. Chile Rates Tracker In Colombia, the IBR swaps traded higher, in general. The 1-year widened to 6.61% (+5bps) and the 5-year went up to 5.83% (+5bps). Colombia Rates Tracker

Upcoming Events

  • In Brazil, retail sales for December will be the highlight of economic activity releases (Tue.). We expect a contraction of 1.9% in the core segment, a payback from November’s increase. In the broad segment (which includes vehicles and construction material), we expect a setback of 0.4%. In addition, December’s real service sector revenues will be released (Wed.), for which we expect a decline of 4.4% y/y. Also, industrial business confidence (CNI) for February will be released (Thu.). Moreover, the Central Bank’s activity index (IBC-Br) may be disclosed. We expect the IBC-Br to drop 0.3% m/m in December. Still, January’s Current Account Balance will be released (Fri.). We expect the current account deficit to reach USD 5.6 billion. Finally, direct investment in the country (former FDI) in January will be released (Fri.), for which we expect to sum up to USD 10 billion.
  • In Chile, all eyes will be on February’s monetary policy meeting (Tue.). We believe BCCh will cut by 25bps, taking the policy rate to 3.25%.
  • In Colombia, the market will watch important activity data. Fedesarrollo will publish the consumer confidence index for January (Wed.). Also, the National Institute of Statistics (DANE) will publish the December trade balance (Fri.). We expect a trade deficit of USD 455 million, smaller than the USD 1.4 billion deficit recorded one year ago. Furthermore, the DANE will also release activity data for December (Fri.). We expect manufacturing to expand 0.5% y/y, while retail sales are likely to grow 2.5% y/y.

Latam Macro Calendar

For details, refer to our Monthly Strategy Report.

Today's editors: Eduardo Marza, Pedro Correa

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