Mexico’s peso has improbably been the world’s top-performing currency since Donald Trump’s presidential inauguration, and an increasing number of emerging market fund managers said it could rebound further from its nosedive following the U.S. election.
Even before its inauguration comeback, a number of emerging market fund managers were betting that the peso had seen its worst days and was poised to outperform in 2017 along with other Mexican assets.
“We’ve gone from an outright short late last year to an overweight position relative to the index, just because there’s a lot of bad news priced in,” said Jim Barrineau, Schroders’ head of emerging markets debt and portfolio manager for its multi-sector bond fund.
“The real exchange rate is very, very cheap relative to history, and at this point, the bond yields are competitive with the higher yielding countries in EM.”
The peso was up 8 percent since Trump’s inauguration on Jan. 20 despite his proposal last week of a 20 percent border tax on Mexican imports and the collapse of a scheduled face-to-face meeting with Mexican President Enrique Pena Nieto.
The peso also made a technical breakout Friday, rallying through a resistance point at the 20.56 level, around where it closed on Thursday. That level marks a 38.2 percent Fibonacci retracement of its sell-off since the Nov. 8 election.
“Perceiving the 20 percent import tax comment as a starting point for negotiations, the market took some solace because it could have been much higher, say 30 percent or 35 percent,” said Gordian Kemen, global head of emerging market fixed income strategy for Morgan Stanley.
The peso has continued its tear even as Trump has reiterated concerns about the North American Free Trade Agreement, saying on Thursday he would like to speed up talks to either renegotiate or replace the deal.
Kemen said investors were relieved Trump did not move to unilaterally withdraw from NAFTA or rule out talks entirely.
And though investors have in the past wagered at their peril that Trump’s often extreme rhetoric would not be matched by his real-world actions, many are betting that the current price of Mexico’s peso already reflects the worst of any potential U.S. action against the country.
Deutsche Bank asset managers said earlier this week they believed the peso had hit a near-term bottom.
Similarly, Michael Gomez, PIMCO’s head of emerging markets portfolio management, said that while he expects the background to remain noisy, “Mexican assets and the peso specifically already incorporate much of the expected downside risk.”
UBS strategists recently said in a research note that even the border tax had been 70 percent priced into the peso’s value.
That’s not to say big risks do not remain, especially given the recent bounce.
“The peso is cheap certainly and absent a big unfavorable change to NAFTA, you will make great money investing in Mexican bonds. But a change to NAFTA that’s unfavorable, and who knows,” said Kieran Curtis, investment director at Standard Life Investments in London, adding that he still sees Mexico as a “deteriorating credit.”
Each firm calculates a currency’s “fair value” differently, but generally valuations are derived by comparing the ability to buy the same goods in different countries or measuring the value of income and investment an economy takes in against what it spends.
Fund managers interviewed by Reuters largely agreed that the peso was at a level inconsistent with the reality of its economy, but some remained wary of further Trump-related surprises.
While he holds slightly overweight positions in Mexican debt, including local currency bonds, Gorky Urquieta, co-head of emerging market debt at Neuberger Berman, said aggressive unilateral U.S. imposition of tariffs or an unwind of NAFTA would likely hit the peso again.
“As much as we think the currency is undervalued, it could become even more undervalued before it begins a sustained recovery,” he said.
After seeing big payoffs in Brazil and Argentina following market-friendly leadership changes, some fixed-income investors are betting on a similar bonanza in Ecuador where a presidential election takes place this month.
Outgoing President Rafael Correa is one of the few remaining left-wing leaders in South America after Brazil’s Dilma Rousseff was ousted in August and Argentina’s powerful Peronist bloc was voted out of the Casa Rosada in 2015.
Both countries, while still struggling economically, turned to leaders who championed the private sector and have worked to undo the policies of their predecessors, backing austerity measures favored by investors.
“Ecuador has the potential to be a breakout story depending on how the elections go,” said Arif Joshi, emerging markets debt portfolio manager at Lazard Asset Management, who said Ecuador was one of his top picks for 2017.
“If the opposition wins you will likely see the same type of spread compression that you saw in Argentina and Brazil,” Joshi said.
The spread between yields on U.S. Treasury bonds and Argentinian and Brazilian sovereign bonds both narrowed by more than 100 basis points ahead of the election of Mauricio Macri in Argentina and Rousseff’s removal in Brazil.
Correa’s former vice president, Lenin Moreno, leads the field but probably lacks enough support to win in the Feb. 19 election without having to compete in a second-round runoff.
Guillermo Lasso, a conservative former economy minister who served as executive president of Banco de Guayaquil GYL.GQ, is second in current polling. But some analysts think Lasso is poised to win the backing of other opposition contenders and go on to beat Moreno in a second round.
Combined support for the three main opposition candidates is greater than Moreno’s, nationwide polls show.
“Should Lasso win as expected, he will move quickly to improve the policy outlook,” Eurasia Group analysts Risa Grais-Targow and Agata Ciesielska said in a note to clients this week. “This includes going to the IMF for a full program and aggressively looking to attract foreign direct investment.”
Ecuador’s deteriorating economy – it fell into recession last year after posting more than 5 percent growth multiple times during Correa’s period in office – is expected to play to Lasso’s favor.
For Ecuador’s widely held bonds maturing in 2022, the spread over U.S. five-year Treasuries has narrowed by more than 300 basis points since spiking on Nov. 14.
During that time, Ecuador’s JPMorgan EMBI bond .JPMEGECU has risen 13.3 percent, while the JPMorgan EMBI plus .JPMEMBIPLUS, which tracks its overall emerging market index, has gained 4.5 percent.
Edwin Gutierrez, head of emerging market sovereign debt at Aberdeen, said expectations for Ecuador’s bonds are “binary” when it comes to the election.
If one of the opposition candidates wins, Ecuador’s bonds “will definitely get that positive knee-jerk reaction,” Gutierrez said.
In addition to several of Ecuador’s sovereign bonds, Gutierrez holds debt positions in state-owned oil company EP Petroecuador.
Ecuador’s bonds are already attractive to investors on a relative return basis. Those maturing in 2022 offer a coupon of 10.75 percent, compared with 6.875 percent, for example, on Argentina’s recently issued five-year sovereign bonds.
The Andean nation has a speculative grade B credit rating average, however, and Fitch Ratings Agency, which holds a negative outlook on Ecuador, warned late last year about the negative effects of a buildup of its debt, which has roughly doubled in the past four years.
The country’s economy is also highly dependent on oil prices.
“It’s really an oil story,” said Rahmila Nadi, co-head of Deutsche Bank’s Enhanced Emerging Markets Fixed Income Fund. “But when you’re talking about 8-plus percent yields, it’s hard to not be excited about.”
Click tmsnrt.rs/2jG86AN for graphic comparing Equador’s 2022 bonds against the 5-year U.S. Treasury
U.S. President-elect Donald Trump’s surprise victory could be a blessing in disguise for Brazil as the country’s agenda of fiscal reform and low reliance on trade lure investors away from more vulnerable Mexican markets.
Emerging markets have sold off since the Nov. 8 election on concerns tax cuts and heavy infrastructure spending under a Trump administration could force the Federal Reserve to hike rates faster, potentially draining capital from high-yielding assets in the developing world.
Many also fear a global trade shock if Trump makes good on campaign pledges to review trade accords.
The Brazilian real tumbled 8 percent in the four days following the vote, the second-worst performing currency in Latin America behind the Mexican peso. But the real has since stabilized to around 3.40 to the dollar as the initial shock faded.
Investors say optimism over President Michel Temer’s reform agenda has lifted foreign direct investment in Brazil and left it less exposed to market volatility in the wake of Trump’s win.
Brazil’s relatively closed economy, as well as its status as a net seller of oil, make it an attractive alternative to Mexico, which sells about 80 percent of its exports to the United States. Concerns over Mexico’s budget and economy have also greyed the skies of the former market darling.
Many investors have been pivoting from Mexico to Brazil since at least July, according to a Reuters survey of fund managers, a trend that could accelerate throughout the coming months.
Steve Tananbaum, founder of GoldenTree Asset Management, said he is “quite constructive” on Brazil and Argentina, where right-leaning administrations have taken office in the past year with agendas for business-friendly reforms.
“Their currencies are down precipitously yet we think there are a lot of positive changes going on there,” he said. “Politically, they both have had changes in leadership that are pro-growth administrations.”
BRAZIL VS ARGENTINA
Even after the recent selloff, the Brazilian real and the Argentine peso remain among the world’s best performing assets this year, supported by the policies of Brazil’s Temer and Argentina’s Mauricio Macri.
Both took over from leftist predecessors who sought to stimulate the economy with loose purse strings and interventionist measures.
Their belt-tightening efforts have captivated investors, though Brazil’s roughly $2 trillion economy has yet to rebound from its deepest recession in decades.
Years of protectionism have slashed both economies’ reliance on foreign trade, sheltering them from potential shocks.
Still, Argentina remains vulnerable to sudden capital outflows, having just returned to international debt markets after years of legal wrangling, investors said.
“If there is broader risk aversion in the markets that prevents Argentina from entering and raising the funds that it needs then Argentina becomes vulnerable,” Siobhan Morden, head of Latin American fixed-income strategy at Nomura Securities, said.
BRAZIL HAS “FAT TO BURN”
While bonds and currencies slumped, emerging market stocks have been mixed since the election as prospects of infrastructure spending boosted prices of industrial metals.
Brazil’s benchmark Bovespa stock index fell 3.8 percent since the vote, in comparison to a 6.2 percent slide in Mexican equities, while an index tracking shares of basic product producers rose 13.7 percent.
Carlos Sequeira, head of research at Banco BTG Pactual SA, said Brazilian stocks, which are up 45 percent in 2016, could rise even further if Temer manages to gather lawmaker support for measures to curb public spending and limit debt growth.
That would allow the central bank to continue its rate-cutting cycle, he said, making riskier stocks more attractive in relative terms.
The fact that real rates are higher in Brazil than in most of its Latin American peers suggests there would be room for rate cuts even if a weaker real fostered price pressures.
“There is fat to burn even if U.S. rates rise more than expected,” Sequeira said.
A little more than a week after Donald Trump’s surprise election victory, a growing number of emerging market fund managers are saying a selloff in Mexican assets may represent a buying opportunity.
Mexican stocks, currency and debt have been hammered since Trump’s surprise victory last week, fueled by concern about the U.S. president-elect’s campaign promises to renegotiate or scrap the North American Free Trade Agreement.
The Mexican rout was the most dramatic part of a wider emerging markets slide that reflected not just anxiety about Trump’s anti-trade views but also the prospect of higher U.S. yields stoked by increased stimulus under the new administration.
But some emerging market investors are expecting a bounce-back, betting President Trump could be less inclined to implement protectionist trade policies than candidate Trump.
“Our base case is that President-elect Trump will be more pragmatic relating to trade and immigration,” said Chuck Knudsen, emerging markets equity portfolio specialist at T Rowe Price. “We think he’ll try to find ways to work within NAFTA.”
The prospect of introducing mass changes in U.S. trade policy will prove much more politically and economically complicated than the president-elect realizes, said Mark Burgess, chief investment officer of Columbia Threadneedle Investments, adding that he viewed Mexico as a “buy” for the long-term.
Trump also has more “low-hanging fruit” to focus on domestically, including proposals for infrastructure investment and tax cuts, repatriation of corporate assets and overhauling regulations, said Alejo Czerwonko, director of emerging markets investment strategy at UBS.
Even in the short-term, some investors see Mexico as ripe for bargain-hunting, with the MXSE IPC index’s .MXX price-to-earnings ratio at its lowest since August 2015, according to Thomson Reuters Eikon data.
“I would buy now absolutely – with a 2017 perspective,” said Didier Saint-Georges, a member of the investment committee at Carmignac Gestion, speaking at the Reuters Investment Summit in London. “It could well be the top performing emerging market next year for all I know.”
Though many investors appear bullish, such views are far from unanimous.
BlackRock’s Global Chief Investment Officer of Fixed Income Rick Rieder, whose firm last year upped its emerging markets exposure, now says he is stepping back from the asset class as a whole.
FIS Group’s chief investment and chief enterprise officer Tina Byles Williams said Trump’s “notably fluid” positions have taken her from neutral on emerging markets to underweight.
Lipper data showed on Thursday that inflows to emerging markets equity funds declined to the lowest level since August 2015 and emerging market debt funds saw their largest withdrawls on record.
If Trump were to actually implement his campaign promises, “there’s downside from the perspective of any (Mexican) asset class you look at,” Czerwonko said.
That worry helped Mexico’s peso fall as much as 17 percent to an all-time low after Election Day. Mexico’s economy was already plagued by shrinking growth rates and sagging oil revenues, making its currency one of the world’s worst performers even before Trump’s victory.
The selloff has roiled all of Mexico’s financial markets, with the BMV stock exchange falling more than 7 percent since the U.S. election, touching its lowest since June. The dollar-denominated MSCI Mexico Index has plunged as much as 19 percent.
Still, the slide in the peso, down 12 percent since the election, will bolster the Mexican economy by reducing the price of labor, Saint-Georges said.
“The Mexican economy is today more competitive than it was a year ago, just about,” he said.
Some investors are putting such views into action. U.S.-based funds investing in Latin American stocks netted $672 million in cash during the weekly period through Nov. 16, the most since September 2013.
The $1.7 billion U.S.-listed iShares MSCI Mexico Capped ETF (EWW.P) attracted the most money among funds in that category, sweeping in $627 million for the week.
Javier Murcio, senior sovereign analyst for emerging market strategies at Standish, a division of Bank of New York Mellon Corp (BK.N), believes even if Trump does intend to scrap NAFTA, Republicans in Congress would be reluctant to get onboard.
“Even a more radical call from the Trump administration to repeal NAFTA in practice will really mean open negotiations to change or update certain areas,” he said.
The dollar climbed to a 3-1/2-month high against the yen on Thursday as markets weighed how President-elect Donald Trump’s policies could affect economic growth.
The greenback rose more than 1 percent to 106.94 yen for the first time since late July JPY=. The dollar .DXY also rose 0.3 percent against a basket of major world currencies, touching its highest in more than two weeks to hover just below levels last seen in early February.
“It’s a continuation of the post-election response,” said Ian Gordon, FX strategist at Bank of America Merrill Lynch. “For us, the clean sweep of both the White House and the Congress by the Republicans is a clear signal that we are going to get a pretty significant fiscal stimulus in 2017 and that is going to be bullish for (interest) rates.”
Expectations that Trump’s policies would boost spending and inflation helped U.S. long-dated Treasury yields rise to their highest in more than 10 months. Yields on benchmark 10-year notes and 30-year bonds had their largest one-day rise in years on Wednesday and added to gains on Thursday after a weak 30-year bond auction. [US/]
Higher interest rates for U.S. Treasuries raise the value of the dollar by making dollar-denominated assets more attractive to investors.
The Chinese yuan CNH= weakened past 6.80 per dollar in the offshore market on Thursday for the first time in more than six years on fears that Trump will act on the protectionist rhetoric that ran through his campaign, particularly regarding trade with China.
The Mexican peso MXN=, also weakened by worries over Trump’s campaign proposals on trade, fell to a low of 20.64 to the dollar, nearing its all-time low mark touched on Wednesday.
Trump’s election also bolstered the British pound, which rose to a one-month high against the dollar, as the president-elect’s call for renegotiating trade deals set the United States and Britain in line to potentially join forces.
“You’ve got President-elect Trump in the U.S. along with Prime Minister (Theresa) May and they’re both talking about trade relationships,” said Douglas Borthwick, managing director at Chapdelaine Foreign Exchange. “So you’ve got two relatively novice politicians that I think will rekindle the special relationship between the U.S. and the U.K.”
The New Zealand dollar fell almost 1 percent NZD=D4 after the central bank cut rates on Wednesday and signalled the possible end to easing.
The euro fell to $1.0865, its lowest against the greenback since Oct. 25 EUR=.