The debate was sparked by the Mexican Foreign Exchange Commission, after announcing on August 31 that it will make a gradual reduction in the amount of the exchange hedging program liquidable in pesos, since Financial analysts argue over whether or not the measure addresses the key factors driving the artificial strength of the peso.
The Commission, which is made up of officials from the Ministry of Finance and the Bank of Mexico (Banxico), argues that Its purpose is to maintain the orderly functioning of the exchange marketbut it also leaves doubts about the impact that his decision will have on the currency market itself.
This program, which was launched in February 2017 at a time of high volatility (depreciation of the peso) in the markets, with an exchange rate of 21.95 pesos per dollaraimed to offer investors a way to protect themselves against possible losses of our currency against the greenback.
Over the years, its amount has increased to reach 30 billion dollars in March 2020in the midst of the covid-19 pandemic and with the exchange rate at 25.36.
The strategy
The reduction plan announced by the Commission contemplates several key steps:
- Starting in September 2023, coverage expirations will be renewed on a single occasion and for 50 percent of the current amount.
- For operations with an original term of six months, a reduction of the term to one month will be announced on their renewal date and the rule of extending only 50 percent of the current amount will apply.
- Transactions with an original term of nine and 12 months will be allowed to be fully completed on the respective maturity dates.
- With a current balance of $7,491 million in outstanding instruments and taking into account upcoming maturities, the program is expected to reach a balance of zero by the end of February 2024. A prompt liquidation.
The pros and cons
For various analysts – with whom we agree –, The decision of the Exchange Commission is consistent with the free floating regimeand can be interpreted as a signal of gradual withdrawal of the authority’s intervention in the exchange market.
Tell me if not, this is an implicit recognition that the monetary authorities have had too much influence on the appreciation of the national currency and that they are no longer so comfortable with this situation.
Despite the initial reaction in the markets, which led the exchange rate to rise above 17.10 units, most analysts do not anticipate a significant depreciation of the Mexican peso and believe that it could maintain its upward trend (i.e. , a falling dollar price), although it is less likely to reach a new low in the year.
From the point of view of ING economists, the reduction in coverage does not address one of the key factors driving the strength of the Mexican peso, which is the risk-adjusted carry trade.
The “carry” involves taking on debt at a lower rate abroad – for example, in the United States – to bring the capital to Mexico and effortlessly pocket the returns from higher interest rates on Cetes and Mexican bonds.
Unless Banxico lowers interest rates (which looks unlikely this year given its restrictive stance) or generates significantly higher implied volatility – ING experts point out – the carry-risk ratio will remain favorable for the peso. . And we agree.
On the other hand, the Citibanamex analysis table sees the measure as positive in terms of efficiency for Banxico and in the context of the exchange rate strength.
It suggests that the country could take advantage of this strength to take complementary measures, such as an additional reduction in the flexible credit line with the International Monetary Fund (IMF) and a policy of accumulation of international reserves. In this space we consider that, although it would be the correct thing to do, it is unlikely that Banxico’s inexperienced Governing Board will adopt such policies.
Even considering the effects of measures such as these, the aforementioned analysts estimate that the real exchange rate could remain stronger than its long-term average level between now and the end of 2024.
AMLO would close with “superweight” and the bubble would burst for the next presidency
In conclusion, here at Top Money Report we think that there will be “superweight” for a while. For both speculative and fundamental reasons (Mexico is still investment grade), the country will continue to attract swallow capital to its debt market, and this will allow it to enjoy a dollar and cheap imports for a long period.
So today is time to “make August” buying everything we can with our pesosbecause they will never again be as valuable as they are right now.
Editor’s note: This text belongs to our Opinion section and reflects only the author’s view, not necessarily the point of view of High Level.
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William Barba Master in Economics from the Austrian School; liberal, gold market specialist and editor of the investment newsletter Top Money Report