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USD/BRL recently defended the bullish gap near 5.01 resulting in a steady bounce. Only a dip below here would risk a deeper pullback, economists at Société Générale report. USD/BRL to target 5.51 if 5.42 gives way “USD/BRL is evolving within two converging trend lines forming a symmetrical triangle. The pattern denotes a clear direction is lacking. This is also highlighted by crisscross moves around the 200-Day Moving Average.”  “If the pair breaks above the upper limit at 5.42, a move towards July high of 5.51 and the descending trend line drawn since 2020 at 5.62/5.66 is expected. This is an important resistance zone.” “Only if the pair breaks below 5.01 would there be a risk of a deeper pullback.”

Economists at Credit Suisse restate their 5.00-5.50 USD/BRL target range ahead of the final round of presidential elections on 30 October and preview FX implications of different political outcomes. A Lula victory can produce some degree of local investor disappointment “A clear victory by President Bolsonaro is likely to be the most constructive for BRL, consistent with a rapid re-test of the 30 Aug lows in USD/BRL around 5.01.”  “We suspect that any recently re-emerged fears of postelection turbulence would likely be quickly vanquished in the event of a Bolsonaro victory, adding reasons for BRL strength to local investors’ well-documented preference for the incumbent over the opposition candidate.” “While a Lula victory can produce some degree of local investor disappointment, we also remain of the view that any ensuing rallies in USD/BRL towards the top end of our 5.00-5.50 target range will rapidly attract sellers – as long as the pre-vote promises by Lula about picking an ‘orthodox’ finance minister are realized.” “We do not have a strong reason to expect a significantly different cabinet choice in the event of a Lula victory, but if this widely held assumption were to falter, the risk of a deeper correction in BRL past 5.50 would increase sharply.”

The first reports came from the Pacific at the start of the day. This is an instant report on inflation in Australia. In the second half of the day I am waiting for important decisions from both Americas. Australian CPI At the beginning of the day, we get to know the report on the change in the price of goods and services from the perspective of the consumer in AUstralia. Both the annual and quarterly CPI results are positive. The price change from the third quarter of this year to the third quarter of last year increased by 1.2%. It was expected to rise to 7.0%, but the result turned out to be higher (7.3%). Looking at the previous periods, we can conclude that CPI YoY is in an exemplary trend. Source: investing.com CPI QoQ maintained its previous level of 1.8% and was higher than the forecasted 1.6%, therefore this reading was considered positive. BoC Interest Rate Decision Today the Bank of Canada will decide on interest rates. It is expected that this time there will be a hike of 75bp. Before the pandemic, interest rates were at 1.75%. Along with the increase in the risk of the crash, the rates dropped to the level of 0.25% and this level was maintained until March this year, when the first increase by 0.25% took place. Subsequent decisions on rate hikes confirmed the current level of 3.25%. To better understand the decisions of the Bank of Canada, traders will observe the press conference, which will take place one hour after the announcement of the new rate level. Crude Oil Inventories The weekly report on The Energy Information Administration's (EIA) Crude Oil Inventories will be released today. The reading is expected to be added and the number of barrels of oil held by the US Firms is expected to hit 1.029M. Such a result will mean an increase from the last level of -1.725M. If the increase in crude inventories is more than expected, it implies weaker demand and is bearish for crude prices. New Home Sales (Sep) According to forecasts, the annualized number of new single-family homes that were sold during the previous month will drop from 685K to 585K. Which may mean that the August peak turned out to be a false reflection of the downtrend. Since the beginning of the year, sales of family houses have been in a downward trend, despite several false rebounds from this trend. We can expect this trend to continue as long as interest rates continue to rise and the Fed does not ease its actions. Source: investing.com Brazil Interest Rate Decision Today, the largest country in South America will also decide on interest rates. The level is expected to be maintained. The last three decisions remained unchanged at 13.75% and a fourth such decision is expected. As of August 2020, interest rates in Brazil were at 2.0%. There have been increases in rates since March 2021. In February this year, they exceeded the level of 10.75%. They grew until they hit 13.75% in August. Summary: 2:30 CET Australian CPI (YoY) 2:30 CET Australian CPI (QoQ) 16:00 CET BoC Interest Rate Decision 16:00 CET New Home Sales (Sep) 16:30 CET Crude Oil Inventories 17:00 CET BOC Press Conference 23:00 CET Brazil Interest Rate Decision Source: https://www.investing.com/economic-calendar/

In the end, former President Lula only gained a slim majority over incumbent Bolsonaro. The Brazilian real has stood up surprisingly well compared with other Emerging Market currencies this year but economists at Commerzbank believe that BRL has only limited appreciation potential for the time being. The real is likely to have only limited appreciation potential “In addition to continued inflation risks one reason why the central bank has not been in a rush with rate cuts is likely to have been the political uncertainty. So far both candidates have only commented about possible fiscal plans in a very vague manner. For that reason, the real is likely to react very cautiously to Lula’s victory.” “Some fear though that under Lula important fiscal reforms will not be implemented. Until details on that emerge, the real is likely to have only limited appreciation potential.”

Today's FX highlight will be the UK's autumn statement. Given that the UK's bond market has largely regained its composure from the sell-off in September, we struggle to see what upside there is for sterling today. Positioning could be the wild card, however. Elsewhere, we have five Fed speakers and favour further dollar consolidation In this article USD: Softer renminbi helps support the dollar EUR: Could be dragged around by sterling GBP: Caution advised BRL: Reality check USD: Softer renminbi helps support the dollar Yesterday, we published our 2023 FX Outlook and for professional customers our FX Top Trade ideas. Our core message for FX markets in 2023 is to expect fewer FX trends - i.e. a repeat of a clean 18-month dollar trend is unlikely - and instead look for more volatility as central banks tighten rates into a recession. Feedback on the report is welcome! For today, the dollar has entered a consolidative mode. We note the rise in USD/CNH which may be giving the dollar a little support. Somewhat conversely, the better news out of China seems to be giving the local banks some problems. Here, retail investors have en masse withdrawn from Chinese bond markets in favour of equities, prompting authorities to check with local banks whether they have sufficient liquidity to meet these withdrawals. For today, we have five Fed speakers. Market pricing for the 14 December FOMC meeting is settling on a 50bp hike - such that any further reference to that today need not demand a much weaker dollar. Our slight bias near term is that long dollar position adjustment may have a little further to run, but that something like the 105 area in DXY proves a 4Q22 base. Chris Turner EUR: Could be dragged around by sterling EUR/USD remains in corrective mode and is not reacting much to press reports of the European Central Bank favouring a 50bp over a 75bp hike in December. Notably, the FX options market has shown no more signs of distress - i.e. investors are not scrambling to buy euro call options - and one can argue that this makes the 1.05 area a slightly firmer ceiling for 4Q22. Expect EUR/USD to be dragged around by GBP/USD today - just as it was in September. 1.0270-1.0500 remains our expected near-term trading range for EUR/USD. Chris Turner GBP: Caution advised The big day has arrived. Chancellor Jeremy Hunt will unveil the autumn statement aimed at plugging the fiscal hole that led to the collapse of Gilts and sterling in September. Investor views of UK fiscal credibility have largely returned to pre-Truss levels, where the 10-year German Bund-Gilt spread is now 115bp (versus 228bp in September) and the UK's 5-year sovereign CDS has narrowed to 27bp from 52bp. Arguably then, the positive re-assessment of the UK fiscal position has largely taken place and suggests that sterling does not have to rally a lot more on a credible budget. Indeed, a credible budget will deliver substantial fiscal tightening and cement views of a multi-quarter UK recession and one in which the Bank of England will continue to hike rates into 2023. As a pro-cyclical currency, this cannot be a good environment for sterling. And were Chancellor Hunt to try and back-load fiscal tightening - e.g. until after the next election in 2024 - Gilts and sterling would sell off. Overall, we expect GBP/USD to be unable to hold any gains above 1.20 and would prefer sub 1.15 levels before year-end. Equally, EUR/GBP should find support near 0.86/87. The only thing going for sterling is buy-side positioning. Being short the pound had been one of the most popular buy-side trades going into October. We have seen what positioning has done to crowded long dollar trades over the last week. It is hard to see what sterling positives the market could take from today's budget - but there is an outside risk that investors have some residual sterling shorts to cover. The outside risk near term is a very painful sterling short-squeeze taking GBP/USD to 1.23. However, that squeeze should not last long. Chris Turner   BRL: Reality check It seems fair to say that the Brazilian real has disappointed some of the more bullish expectations made when Luiz Lula won the Presidential election run-off in October. Investors had been attracted to the real because of Brazil's high real interest rates and the idea that a centrist congress could keep some of President-elect Lula's spending plans in check. However, concerns about Brazil's fiscal position and welfare spending plans have come back to the fore. The new administration, taking office in January is looking at a constitutional amendment to exclude around $30bn of welfare spending from the nation's fiscal debt limit. Reuters is also reporting that Lula may be favouring a left-wing choice for Finance Minister - typically a very sensitive topic for Latam currencies. Equally, further choices for Lula's new team are said to be coming from the administration of former left-wing President, Dilma Rousseff, who was widely associated with Brazil's last fiscal crisis. We have been more bearish on the Brazilian real than consensus for some time and in our recently published FX Outlook, we make the case for USD/BRL to be ending 2023 much closer to the 5.80 highs than the consensus estimate of 5.15. Investors looking for yield in Latam should instead continue to favour the less volatile and better fiscally positioned Mexican peso. And near term, BRL/MXN can trade back to the 3.50 lows.  Chris Turner Disclaimer This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more  

When putting together our Latam FX outlook this time last year, we speculated on the ‘Return of the Pink Tide’ or a leftward shift in local politics. That has indeed materialised in presidential elections in Colombia, Chile and Brazil. We think 2023 will be another tricky year for Latam and continue to favour Mexican peso outperformance Source: Shutterstock Real rates in focus in Brazil The leftward shift in Latin politics in 2022 has had a mixed effect on local currency markets. The election of left-leaning presidents in both Colombia and Chile has, rightly or wrongly, been associated with heavy currency falls. The pesos of Colombia and Chile are down 15% and 5% year-to-date against the dollar. The Brazilian real on the other hand has until very recently been the darling of the EM FX world, delivering 5% nominal gains and much more when taking Brazil’s attractive carry into account. The Mexican peso has also done well with a 5% year-to-date gain. Turning first to Brazil. The independent central bank moved early and aggressively with tighter policy to contain inflation. The policy rate is now 13.75% and headline inflation has already corrected to 7% from 12% – leaving Brazil with very attractive real interest rates. The market is starting to price a 200bp easing cycle for the second half of 2023, which in theory could make Brazil's local currency bonds very attractive. Our concern for the real, however, is that former President Lula has been re-elected on a ticket of welfare spending. Brazilian growth may sink from near-3% this year to close to zero next year. And in a difficult international environment for bond markets, fiscal pressure could see the real ending the year much weaker than the 5.15 USD/BRL levels expected by the consensus. Chile’s Achilles' heel is its large current account deficit – worth 8% of GDP this year and only expected to narrow to a 5% deficit next year. Sizable current account deficits are a distinct disadvantage at a time when core rates are rising and abundant liquidity is being withdrawn. USD/CLP will likely make another run at 1000 and despite securing an IMF Flexible Credit Line, we expect the peso to remain vulnerable – especially in early 2023 when China remains weak and the dollar strong. Interestingly, the IMF recommends that Chile substantially restore its FX reserves – arguing that even in the good times, USD/CLP will not spend too much time below 900. Turning finally to Mexico, we feel the peso has a lot going for it. Banxico’s efforts to effectively manage USD/MXN near 20 stand to create the virtuous cycle of lower volatility and higher risk-adjusted returns. We much prefer the Mexican peso to Brazilian real exposure, given that the real trades on nearly twice the volatility as the peso. Mexico also looks much better placed in terms of debt, and its higher sovereign rating should provide some protection in the face of deteriorating external conditions. Finally, Mexico could become a major beneficiary of ‘nearshoring’ following recent supply chain challenges over the past three years – suggesting Foreign Direct Investment trends should be monitored carefully in 2023. Real interest rates in Latam seem attractive... Source: Refinitiv, ING USD/BRL: Fiscal challenges   Spot Year ahead bias4Q221Q232Q233Q234Q23 USD/BRL 5.30 Bullish 5.50 5.75 5.80 5.90 6.00 How fiscally aggressive can Lula be? A ‘resurrection’ is how President-elect Lula describes his return to office after narrowly beating the incumbent Bolsonaro in a second-round run-off. His pitch for a return to office was very much one based on welfare support and also a complete reversal of Bolsonaro’s free-market approach to the Amazon. Brazilian assets initially responded positively to Lula’s win in that he may be fiscally limited due to right-wing politicians having done well in congressional elections. Hence, Congress could prevent fears of unfunded social giveaways exacerbating what is likely to be an annual budget deficit of 7% of GDP and debt to GDP heading towards 90% next year. Why we are more bearish on BRL: Consensus expects USD/BRL to head back down to the 5.15 area by the end of 2023. The view here is that inflation has topped and that Brazil’s central bank can embark on a 200bp easing cycle in the second half of 2023, which should be good for the local currency bond market. We are a little more concerned that the legacy of a near 14% policy rate will be much weaker growth in Brazil next year, which will bring fiscal pressure to the fore in what will still be a challenging year for bond markets. After all, Brazil’s five-year sovereign CDS trades near 280bp for a reason. Any changes in the fiscal rules would be negative. Greater links with China?: The return of President Lula could also re-invigorate the BRICS geopolitical grouping. Where that goes in 2023 remains to be seen, although there was at some stage a suggestion of working towards some kind of BRICS currency arrangement. We doubt that Brazil would want to get entangled with such a venture, but any higher profile of the BRICS would serve as a reminder of Brazil’s heavy trade links with China – 31% of Brazil’s exports went to China in 2021. Sluggish Chinese growth could prove a headwind to Brazilian exports and push Brazil’s current account deficit towards 2% of GDP next year. USD/MXN: Peso enjoys high, risk-adjusted yield   Spot Year ahead bias4Q221Q232Q233Q234Q23 USD/MXN 19.40 Neutral 20.00 20.00 19.50 19.25 19.00 High yields, less volatility: In tracking Fed tightening this year, Banxico deserves a lot of credit for keeping USD/MXN stable. Here, three-month realised volatility is just 9.9% compared to 19.3% for USD/BRL. In response, expected volatility is substantially lower for USD/MXN as well. This has implications for the ‘carry-to-risk ratio’ – or risk-adjusted yield which is now 50% higher for the Mexican peso versus the Brazilian real. Barring Banxico ending its tightening cycle well ahead of the Fed, we expect USD/MXN to remain relatively well-contained near or under 20.00 over the next three-to-six months even as external market conditions deteriorate. Mexico well-placed for nearshoring: Disruptions to global supply chains from the pandemic and this year’s Russian invasion of Ukraine have questioned globalisation and raised the prospects of ‘friendshoring’ or ‘nearshoring’ – i.e. moving supply chains closer to home. Mexico stands to benefit from US nearshoring, sharing as it does a land border with the US and now engaged in a new USMCA trade deal. Mexico features prominently in the White House’s supply chain resilience plan, focusing on semiconductors, batteries, critical minerals, and pharmaceuticals. At $3.50/hour, Mexico’s average manufacturing industry wage compares very favourably with the US ($30/hr), but also with Latin America, e.g. Brazil and Chile at $4.71 and $5.74/hr, respectively.   Remittances still rising: Remittances back to Mexico from the US are still rising and are currently worth $5bn per month. Presumably these slow at some stage when US unemployment turns higher, but they have proved remarkably resilient so far. Mexico also has a relatively modest current account deficit of less than 1% of GDP – making remittances quite meaningful. In terms of politics, it is not clear how much President Andres Manuel Lopez Obrador can get done before elections in the summer of 2024, but his fiscal rectitude during the pandemic certainly provides insulation as global borrowing costs continue to rise. Investors continue to see Mexico as a good quality credit, trading its five-year sovereign CDS at around 140bp, compared to 280bp for Brazil.  USD/CLP: Growing pains   Spot Year ahead bias4Q221Q232Q233Q234Q23 USD/CLP 885.00 Neutral 950.00 1000.00 950.00 925.00 900.00 Controlling social tension in a recession: Left-wing President Gabriel Boric was voted into office in March 2022 on a ticket for social reform. This followed the widespread social uprising in 2019. President Boric has struggled to make progress here, with his constitutional reform package widely rejected in September – providing somewhat of a reprieve to the mining industry. 2023 stands to prove a difficult year for Chile. The IMF projects the economy will contract 1.3% next year and unemployment will rise. Balancing how to advance social reform, while keeping the mining industry onside – softening mining taxes being a recent example – will be a major challenge.   Where’s copper heading? As the largest copper producer in the world, the Chilean peso is very much driven by these prices. USD/CLP hit 1050 in July and had to seek IMF support when copper fell 25%. Our commodities team believes copper will struggle over the next six months. Incidentally, participants at the recent London Metal Exchange (LME) gathering were quite split on copper’s path. Our house view is that the continued weakness in China’s construction sector amidst the over-supply in the residential sector will keep copper on the back foot for the next three-to-six months. Equally, widespread labour unrest in the industry is hitting Chile’s copper production, recently running at a 16-year low. Limited scope for FX intervention: The exchange rate has proved a useful shock absorber for Chile’s economy. The macro imbalances created by strong consumption during the pandemic – leaving Chile with an 8% of GDP current account deficit – make the peso vulnerable to the international environment. Chile has lost 17% of its FX reserves in defence of the peso this year. And whilst it does have the precautionary support of an $18bn IMF Flexible Credit Line, it will not want to use it. A strong dollar environment into year-end and potentially through 1Q23 can see USD/CLP head back to 1000 and perhaps also drag the local central bank into some further tightening. Interestingly, the IMF has also said that Chile needs to rebuild FX reserves, suggesting USD/CLP struggles to trade under 900 on a sustained basis over the next couple of years. Disclaimer This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more  

After - and perhaps because of - the positives of the strong February China PMI numbers yesterday, today sees the hangover of higher core rates around the world as investors re-price terminal policy rates. The US 2-year Treasury yield is closing in on a staggering 5%. Expect more of the same today with the focus on February core eurozone CPI  Source: Pexels USD: Trapped by opposing forces Trade-weighted measures of the dollar are consolidating near recent highs and we suspect further volatility - rather than a clean trend - will be the story for coming weeks. Weighing on the dollar has been the pick-up in global activity as represented by yesterday's February PMI release from China. We will hear more on the China growth story this weekend as political leaders meet for their Two Sessions. Also weighing on the dollar has been some aggressive re-pricing of central bank curves overseas - e.g. in the eurozone. For reference, since last Friday two year swap rates have risen 17bp for EUR, 10bp for USD and just 2bp for GBP.  Yet US rates have powered ahead too, with the US 10-year Treasury yield back above 4.00% and the 2-year at 4.92%. Expect to hear more about the equity risk premium where investors will increasingly have to weigh up their incentives for holding equities if a two-year, risk-free investment in US Treasuries pays close to 5%. Higher rates around the world will clearly increase headwinds for risk assets - which is dollar bullish. How will this story break? We have some important US data releases over the next week and key testimony from Federal Reserve Chair Jerome Powell next week which should shed a little light on how aggressive the Fed needs to be. Recall that Chair Powell did say on 1 February that the broad disinflation process has started. Key data releases will include tomorrow's ISM Services for February. Was the January rebound here weather related? And again the question of weather will be asked when the February US jobs numbers are released on 10 March. Unless we get clearer signs that the January data bounce was weather-related, the dollar will hold onto gains made in February. For today, the dollar will probably take a back seat to events in Europe (core eurozone CPI) and we doubt US initial claims are a market mover. This could see DXY edge towards the lower end of a 104.00-105.00 range today. Chris Turner EUR: Look for a new cycle high in core eurozone CPI As above, the re-pricing of central bank cycles has been more keenly felt in the eurozone than the US this week. That trend should be supported today with the release of February's core eurozone CPI which looks likely to exceed the 5.3% year-on-year consensus. We have had little push-back from the European Central Bank against the repricing of the cycle, which now seems to price the deposit rate above 4.00% early next year. That seems excessive, but let's see what today's release of the ECB minutes has to say. Also important today will be comments from consistent hawk, Isabel Schnabel, speaking at the Money Market Contact Group in Frankfurt at 1330CET today. Will she push back against this aggressive pricing of the ECB cycle?  EUR/USD may well be trapped in a 1.0600-1.0700 range today. Chris Turner CEE FX made a giant leap yesterday, as did the entire EM space, driven by positive news from China and the EUR/USD move higher. However, we do not think the US dollar has had the last word. So the CEE region may still benefit a bit today from yesterday's move but we do not expect a significant extension of recent gains. This should have been limited by the already very heavy positioning and in the case of the Czech koruna, near-historically strong levels. Read next: Stock market has been calm thanks to a belief that peak rates are near. The US jobless claims are forecast to hit 196K| FXMAG.COM Today's calendar in the region is almost empty, so the global story will be a decisive driver again. However, it is hard to see a significant trigger for a correction in the CEE region at the moment and thus we prefer to be rather bullish for potential further positive surprises for the EM space and persistent carry trades. From this perspective, it seems the Polish zloty could start to catch up with its CEE peers given its position as the only underperformer this year. In our view, everything negative on the table has been priced in and thus has room to get back on track supported by global momentum. Frantisek Taborsky GBP: Decision Maker Panel survey is key today As above, we note that short-dated GBP rates have not moved as much as EUR and USD rates this week. This trend was helped yesterday by very equivocal comments from Bank of England Governor, Andrew Bailey, who would not commit to further tightening. This has weighed on sterling and has unwound any gains from the Windsor Framework agreement.  We have a down arrow on GBP today, because of the 1030CET release of the BoE's Decision Maker Panel survey. The BoE takes a lot of notice of this and what it says about tight labour markets. This has pointed to an easing in tight labour conditions including marginally weaker wage growth and less difficulty in recruitment. Assuming those trends continue, GBP interest rates can continue to fall behind those of the eurozone and the US and see some modest sterling downside. EUR/GBP could make a run at the 0.8930 area. Also today we have BoE speakers in the form of Silvana Tenreyro (super dove, not market moving) and Chief Economist, Huw Pill (16CET). He should follow Andrew Bailey's line and again probably presents a slightly negative event risk to sterling. Chris Turner BRL: When politics and central banking collide The Brazilian real has been steady against the dollar, but weaker against our favourite currency in the world - the Mexican peso. We feel that political headwinds are growing for the real. Because of fiscal pressure, the new Lula administration is not rolling over fuel subsidies - these fuel subsidies had allowed Brazilian headline inflation to take a sharp turn lower last year. But having been elected on a mandate on supporting the less well-off, politicians are now pressuring Petrobras to cut its margin on fuel sales such that the removal of subsidies does not see fuel prices rise as much. At the same time, politicians are keen for the central bank to start cutting interest rates - where the policy rate currently stands at 13.75%. However, in its most recent update, the central bank has warned about long-run inflation expectations increasingly moving away from target - clearly at odds with calls for rate cuts. With core rates so high, we doubt investors will have too much patience for this kind of friction and we would favour further under-performance of the real. Were the politicians to increase their pressure on BACEN - the Brazilian central bank - then USD/BRL could trade up to 5.40. Chris Turner Read this article on THINK Disclaimer This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more

If this is the turn in the dollar cycle, it could mark the sweet spot for flows into emerging market asset markets – particularly EM local currency bond markets. Both Brazil and Mexico have relatively large weights in these benchmarks and their currencies could perform well as this asset class comes back into fashion     This month we are having to acknowledge the better prospects for the Brazilian real, where some welcome reforms and what should be the start of a significant easing cycle are improving the outlook for Brazilian asset markets. On the former, the new fiscal framework and what seems to be consumption tax reforms are supporting the narrowing in Brazil’s sovereign risk premium. Low inflation, now below the central bank’s 2023 inflation target, is also raising expectations that BACEN can cut the Selic rate aggressively. A first cut in the 13.75% rate is expected in August, with around 400bp of easing expected over the next year. If we are right with the dollar turning lower later this year, it looks like BRL can outperform the steep forwards curve.  

BRL: 25bp or 50bp to start the easing cycle? There is fevered speculation that Brazil’s central bank, BCB, will start its easing cycle later today. Having been pressured by the Lula administration for most of the year to cut rates, it now seems the BCB has sufficient ammunition to deliver a credible rate cut. Brazil’s congress has passed important fiscal reforms (fiscal policy always proving Brazil’s Achilles Heel) and a sharp decline in inflation has allowed inflation expectations to drop close to BCB’s target near the 3.50% area. The only question it seems for the market is whether the BCB will kick off the cycle with a 25bp or 50bp cut. Historically, when BCB makes the decision to adjust policy, it moves in large increments. Equally, BCB has been fighting the government all year and with two new additions to its board may not want to be seen as acting overly aggressively. Even though BCB has not provided much signalling on this easing (unlike the recent telegraphed cuts in Chile), we would not rule out a 50bp rate cut. The interest rates market already prices close to 500bp of easing over the next year – so may not drop too much further – but we think the Brazilian real may not need to sell off too harshly. After all, real interest rates remain hugely in positive territory and a recent sovereign rating upgrade – and lower volatility – suggest the Brazilian real will continue to be a recipient of carry trade flow.  

BRL: Focusing on the fiscal The Brazilian real is having a slightly better week. Its $2bn first-ever ESG offering has gone well, where the seven-year note was priced at a yield of 6.5% - close to an investment-grade country, according to Finance Minister Fernando Haddad. (Brazil's sovereign rating is actually three notches below investment grade on S&P's rating scale). Additionally, there seems to be some hope that Fin Min Haddad can push back some of those in the Lula administration who want to soften the nation's fiscal rule, where currently a zero deficit primary balance is the provisional target for next year. In our 2024 FX Outlook, we do slightly prefer the Mexican peso (loose fiscal, tight monetary policy) to the Brazilian real next year. But for the short term - in listless markets - the real should perform OK.