Itaú BBA - LatAm FX sell off on external headwinds

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LatAm FX sell off on external headwinds

May 17, 2017

Markets traded in a risk off tone as investors focused on political concerns in the US and the government’s ability to push through its pro-growth agenda.

With information available until 6:30pm Brasilia time

Highlights

  • Markets traded in a risk off tone as investors focused on political concerns in the US and the government’s ability to push through its pro-growth agenda. Hence, havens posted gains as gold prices went up 1.89% and the JPY appreciated 2.02%. In LatAm FX, on the other hand, all currencies under our coverage depreciated. The COP weakened 0.57% to 2,898.24/USD. The MXN is trading 0.76% lower to 18.78/USD. The CLP posted losses of 0.36% to 669.16/USD. At last, the BRL was the bottom performer among the majors, closing at 3.1391/USD (-1.35%). 
  • In rates, the Brazilian curve bear steepened (Jan18x21: +8bps) in the session. Long rates substantially widened on profit taking amid external headwinds. In DI futures, the Jan-19 widened 2bps to 8.82% and the Jan-25 went up 9bps to 10.12%. For the remainder of 2017, the curve prices in roughly 290bps in rate cuts. 

Macro Backdrop

BRAZIL
  • In the opening remarks of IMF’s Regional Economic Outlook, released in BCB’s website, Governor Goldfajn said the authority is considering between keeping the current pace of easing or a moderate intensification of the pace. The monetary policy committee will consider the evolution of economic context as well as uncertainties and risk factors still present in the economy. Finally, he emphasized the board is still evaluating the appropriate degree of frontloading, adding “there is no definition at the moment, a decision will be only taken at the next Copom’s meeting”.
  • The BCB placed the full offering of 8,000 FX swaps. After closing, the central bank called a roll over auction of up to 8,000 contracts on May 18.
COLOMBIA
  • The central bank’s May survey shows a tick-up in inflation expectations at all horizons, complicating the continuation of aggressive rate cuts. Last month the central bank upped the easing pace by implementing a 50-bp rate cut amid growing activity concerns, falling inflation expectations and moderating headline inflation. The pick-up in inflation expectations could support the reversion to a more cautious rate cut pace of 25bps at next week’s monetary policy meeting. The 2017 inflation expectation moved to 4.38% from 4.30% in the April survey. Meanwhile, the 2018 inflation expectations rose to 3.5% (3.4% previously). The 2-year horizon inflation expectation increased 3.31% from 3.21% last month. The core inflation expectation measure (excluding food prices) was broadly stable at 3.5% in 12 months and 3.07% in two years. The surveyed respondents expect a 25-bp rate cut next week, followed by consecutive cuts of the same magnitude until the policy rate reaches 5.5% in August, thereafter pausing until February 2018, before taking the rate to 5.0% by April next year. 
  • We too expect the policy rate to end the year at 5.50%, with further easing to 4.5% next year. We expect the pace of rate cuts to remain data dependent. Still weak confidence, low growth and declining headline inflation will be arguments for larger rate cuts next week, however, the sticky non-tradable inflation and the latest reversion of inflation expectations will likely motivate some caution.
Market Developments 
  • GLOBAL MARKETS: Markets traded in a risk off tone as equity markets were strong on the red and volatility gauges increased. The dollar index (-0.65%) further weakened as investors concentrate political concerns in the US. Markets remained focused on the US government’s ability to push through its pro-growth agenda. Hence, havens posted gains as gold prices went up 1.89% and the JPY appreciated 2.02%. Also, US Treasury yields fell to their lowest levels in a month as the 2-year narrowed 6bps to 1.24% and the 5-year fell 10bps to 1.75%. The Fed funds implied probability of a rate hike in June went down to 82.5% from 97.5% as of Tuesday (May 16). Global Markets Tracker
  • CURRENCIES & COMMODITIES: Commodities traded higher in the session. Oil prices climbed (WTI: +0.68% to USD 48.99/bbl) after EIA’s weekly report showed a drop in crude inventories. The data came in contrast to the build reported Tuesday by the API and has had a disproportionate impact on sentiment. At the same time, iron ore prices posted gains of 1.31%. In LatAm FX, all currencies under our coverage depreciated. The COP weakened 0.57% to 2,898.24/USD. The MXN is trading 0.76% lower to 18.78/USD. The CLP posted losses of 0.36% to 669.16/USD. At last, the BRL was the regional laggard, closing at 3.1391/USD (-1.35%). FX & Commodities Tracker
  • CDS SPREADS & EXTERNAL BONDS: LatAm Credit spreads for the 5-year tenor widened across the curve. Chilean spreads went up 3bps to 74bps and Mexican increased 5bps to 120bps. CDS in Colombia widened 6bps to 132bps. Country risk in Brazil increased the most in the session, to 205bps (+8bps). External Bonds and CDS Tracker
  • LOCAL RATES – Brazil: The Brazilian curve bear steepened (Jan18x21: +8bps) in the session. Long rates substantially widened on profit taking amid external headwinds. In DI futures, the Jan-19 widened 2bps to 8.82% and the Jan-25 went up 9bps to 10.12%. For the remainder of 2017, the curve prices in roughly 290bps in rate cuts. Brazil Rates Tracker
  • LOCAL RATES - Mexico: Long Mexican yields narrowed in the session again. In TIIE swaps, while short was broadly flat (9-month at 7.22%), long went down (5-year: -3bps to 7.14%; 10-year: -5bps to 7.37%). Mexico Rates Tracker
  • LOCAL RATES – Chile and Colombia: In Chile, yields narrowed in the session. In Camara swaps, short rates went down 2-3bps (1-year: -2bps to 2.52%) and long ones decreased 4-5bps (7-year: -5bps to 3.82%). Chile Rates Tracker In Colombia, rates also went south. In IBR Swaps, the 1-year went down 2bps to 5.32% and the 5-year fell 3bps to 5.41%. Colombia Rates Tracker

Upcoming Events

  • In Brazil, industrial business confidence (CNI) for May will come through (Fri.). We expect the current upward trend to continue. 
  • In Mexico, the Central Bank’s board will meet to decide on the reference rate (Thu.). It will be hard for Banxico’s board to pause the hikes given the latest inflation data. Therefore, we expect Banxico to deliver a 25-bps rate hike (to 6.75%), in contrast with market expectations of no action.
  • In Chile, the central bank will publish the 1Q17 GDP (Thu.). The monthly GDP proxy recorded growth of 0.2% in the quarter, down from 0.5% in in 4Q16. The central bank will also publish the 1Q17 current account (Thu.). We expect a USD 700 million deficit, down from the USD 363 million surplus in 1Q16, mainly on the back of a smaller trade balance surplus in the quarter (USD 1.2 billion in 4Q16, after USD 2.2 billion in 1Q16). Finally, the central bank of Chile will hold its May monetary policy meeting (Thu.). We believe that sticky core service inflation and a favorable activity surprise gives leeway for a pause at this month’s meeting, so leaving the policy rate at 2.75%.
  • In Colombia, the trade balance for the month of March will be published (Thu.). We expect a trade deficit of USD 780 million, smaller than the USD 1.1 billion deficit recorded one year ago. As a result, the trade deficit in 1Q17 would come in at USD 2.3 billion, narrowing from USD 3.6 billion in 1Q16. Going forward, the national statistics authority will publish the supply-side breakdown of GDP growth for 1Q17 (Fri.). Based on activity indicators for the quarter, we estimate activity fell 0.1% from the previous quarter, resulting in annual growth of 1.4%, down from the 1.6% in 4Q16. Finally, the March activity coincident indicator (ISE) will be published (Fri.). Recent indicators reaffirmed that the economy was weak in the first quarter of the year. In the previous month, ISE grew a mild 0.3% year over year. 

Latam Macro Calendar

For details, refer to our Monthly Strategy Report.

Today's editors: Eduardo Marza, Pedro Correa




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