Itaú BBA - Weekly Fixed Income LatAm Strategy: Depreciation in EM currencies creates opportunities

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Weekly Fixed Income LatAm Strategy: Depreciation in EM currencies creates opportunities

August 13, 2018

Receiving the front-end of local rates in Brazil seems interesting again.

All LatAm: Emerging-market currencies continue to depreciate against the USD early this week, after a strong sell-off on Friday as Turkish markets suffered heavy losses. The sell-off is a good reminder that outright receivers in high-beta LatAm rates are risky in this environment, but the volatility also creates some opportunities. In Brazil, for example, the local yield curve is again pricing in a 25bps rate hike in the next Copom meeting.

BRAZIL: BRL depreciated and rates widened substantially on Friday. Market prices now imply a 25bps hike in the September Copom meeting, before the Presidential elections in October. We have been out of Brazilian local rates since late June, after a good gain receiving the front-end. While local uncertainties will remain high in the short term, we do not see BCB hiking rates with BRL at current levels. Brazil has better external fundamentals than other EMs, because of its high level of international reserves, low public external debt, and a low current account deficit. This allows, in our view, BCB to separate FX and monetary policy, and reinforce the inflation targeting regime. Therefore, a trade received in the front-end of local rates and short BRL seems interesting again.

This week keep an eye on election polls and political news in general. A Real Time Big Data poll will be released from Monday onwards and a Paraná Pesquisas poll from Tuesday onwards. Several regional polls are also expected during the week. We will have another Presidential debate on Rede TV on Friday, and Wednesday is the deadline for parties to register their candidates in the electoral court (TSE).

MEXICO: We’ve been receiving the 5-year TIIE rate, but shorting the MXN, which provided a good buffer during this sell-off. Our position is bearing a 10bps loss, up from a 20bps loss earlier this month.

Banxico will publish the minutes of its last meeting on Thursday. We expect the minutes to further explain how the central bank is seeing the recent inflation surprises and their impact on the inflation outlook. Also, we expect to see more detail about their concerns of recent weakness in economic activity, and a more detailed discussion on NAFTA. In our view, a successful renegotiation of NAFTA would likely mean an end to the tightening cycle. However, if a deal is not reached before the end of August, this will have adverse consequences for the Mexican peso to be followed by more monetary policy tightening.

COLOMBIA: The sell-off was relatively well contained in Colombian FX and rates. Colombia is the only country where we have an outright receiver in the 1-year IBR rate (+18bps gain), because oil prices remain high and the new administration seems to be moving away from measures that could deteriorate the fiscal outlook.

Yield curve prices imply around 85bps in rate hikes starting early next year, which we believe is excessive. In fact, Ana Maiguashca from the board of Banrep sounded comfortable with inflation on target last week, and questioned the hikes imbedded in the curve. We read her remarks as indicating rates on hold for long.

This week a batch of economic activity data will come through.

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