Itaú BBA - Weekly Fixed Income LatAm Strategy: Mexico to stay on hold, Argentina expected to hike

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Weekly Fixed Income LatAm Strategy: Mexico to stay on hold, Argentina expected to hike

April 9, 2018

We expect the Central Bank of Mexico to stay put, while the Argentine is expected to hike the 7-day repo rate by 50-bps.

MEXICO: We expect the Central Bank of Mexico to stay put at its monetary policy meeting on Thursday. The recent evolution of inflation, the appreciation of the Mexican peso and the indication that the board will attach less importance to Fed's rate moves are the reasons behind our call. However, given that risks related to Nafta, presidential elections and monetary policy in the U.S. remain alive, we think it is unlikely that the board will close the doors for further tightening. Other important releases are March’s CPI inflation (Mon.) and February’s industrial production (Wed.).

Mexican local rates continued to decline last week, but this time the 1-year and the 3-year rate dropped by the same amount (5bps). Our recommendation to pay the 1y rate and receive the 3y rate earns a positive result of +0.17%. The spread between the two rates now stands at -0.40% (-0.19% when we entered the trade back in February), and is only 10bps above our target of -0.50%. Given the declining risks on the Nafta renegotiation, MXN appreciation, and Banxico finishing the hiking cycle, we are inclined to switch our recommendation to an outright receiver.

ARGENTINA: We expect the central bank to hike the reference rate (7-day repo rate) by 50-bps to 27.75% in its first meeting of April (Tue.). In its most recent monetary policy decision, the central bank still considered the recent spike in inflation as temporary. However, it explicitly said it could act to ensure an appropriate disinflation path once transitory effects conclude. While the guidance suggests the central bank is willing to wait for inflation data after April before hiking rates, we think the fast depletion of already-low reserves will convince the board to tighten monetary policy sooner. In addition, the most recent survey of expectations showed analysts increasing further its inflation forecasts for this year and the next. Finally, we note recent activity numbers indicate the economy maintains a solid momentum, giving policy makers more room to conduct monetary policy.

BRAZIL: In a volatile week, caused by former President Lula’s trial and global trade war fears, Brazilian local rates increased considerably both in the long-end and the belly of the curve. Our Jan-21 receiver endured some losses, with the accumulated P&L now standing at +2.13% (end of previous week: +2.44%). The Jan-21 rate now stands at 8.09% (7.96% the week before), which implies more than 300bps in rate hikes over the next two years, which we believe is excessive even considering the uncertainty surrounding the election. We will maintain the position.

Weekend news flow was focused on former President Lula’s arrest and the political arrangements for the Presidential election. Last Saturday was the deadline for those taking part on the Presidential race to leave executive positions and join parties. TV presenter Luciano Huck did not join a political party, therefore he will not run. Henrique Meirelles joined the MDB (former PMDB) and stepped down as Finance Minister. Former Supreme Court President Joaquim Barbosa, who became well-known by the general public in Brazil when he was rapporteur of the “mensalão” political scandal of 2006, joined the PSB. Geraldo Alckmin and Joao Dória (PSDB) resigned from São Paulo governor and mayor position, respectively.

This week, keep an eye on March’s IPCA inflation (Tue.), which is expected to remain low. We forecast a 0.11% monthly increase, with the 12-month reading at 2.7%, a slight decline relative to February (2.84%). On economic activity, the key releases will be February’s retail sales on Thursday, and the data from the service sector (PMS) on the following day.

COLOMBIA: The front-end of IBR rates tightened last week, after March’s inflation came in well below expectations (link here), increasing the chance for Banrep to resume rate cuts this month. The disinflation process continues, including in the stickier non-tradable prices, as we have been expecting (link here).

The 18-month IBR rate declined 5bps to 4.39%, causing further gains to our receiver (current P&L: +0.21%, from +0.15% by the end of the previous week). The curve now prices in 26bps in cuts over the next 3 months. We believe rates may tighten further, because inflation is normalizing and activity remains weak, and will maintain the position. We expect the policy rate to fall to 4.0% (from 4.5% currently) by year-end.

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