USD/BRL

High rates versus high risk

Current spot: 4.9878

• The softening in dollar rates in May allowed for a better EM environment and some resumption of equity inflows into Brazil – a key driver of strength in the real. BRL implied yields above 12% are very attractive and discourage hedging. So far there is no real sign that BACEN is ready to stop the tightening cycle and the policy rate is expected to be lifted 50bp to 13.25% in June.
• Politics is the main challenge for the BRL now. With 4 months to go until elections and Bolsonaro trailing Lula in the polls 30% to 46%, fiscal giveaways are the risk – eg, cutting fuel duties.
• US real rates heading higher this summer mean a difficult external environment, tipping the scales towards a higher $/BRL.

USD/MXN

Banxico ready to take ‘more forceful’ tightening measures

Current spot: 20.26

• The Mexican peso has been one of the strongest EMFX performers over the last month, alongside Latam currencies. MXN strength looks less driven by commodities and more by last month’s hawkish shift by Banxico. When hiking 50bp to 7.00% last month, Banxico said it is ready to take ‘more forceful’ tightening measures. This has led to widespread expectations of a 75bp hike at the June and perhaps August meeting.
• We had thought Banxico would merely match the Fed this year to keep a 600/625bp spread in rates. This spread could actually move nearer to 700bp and keep USD/MXN offered near 19.50.
• Mexico is a better-quality carry trade given its solid BBB rating.

USD/CLP

Monetary policy struggles to keep pace with inflation

Current spot: 844.62

• Chile’s central bank has recently taken the policy rate to 9%, slowing the rate hikes to a pace of 75bp. Markets price the policy rate topping out around 9.75% this summer. The problem is that inflation is still running up around the 11% YoY area and that the economy contracted in 1Q.
• Despite the positive commodity backdrop, we’re still a little bearish on the peso. The constitutional reform will be presented in early July and voted on in September. Some of the harsher nationalization ideas have been taken out, but concerns remain.
• Unless China introduces massive stimulus soon, copper prices look unlikely to surge and a current account deficit keeps CLP soft.

This article is a part of a report by ING Economics

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