Mexican peso and Brazilian real likely to lose shine after strong advances in 2022: analysts

The Mexican peso and the Brazilian real They are among the world’s best-performing currencies against the dollar this year, but their trajectory could change dramatically as political and economic risks threaten to cloud their outlook, analysts said.

Since the beginning of the year, the Mexican currency has appreciated 2.3% against the dollar, while the real has soared 6.8%. These valuations are no small thing against a dollar index that has strengthened almost 19% against a basket of currencies in 2022, to thresholds not seen in two decades.

The contrast is also marked by the variation of other regional currencies, such as the Colombian pesowhich has weakened 17% under pressure from political uncertainty.

So far, the strength of the Mexican peso and Brazilian real is linked to market fundamentals, amid healthy current account balances and rate spreads that are attracting traders and investors.

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What makes those Latin American currencies attractive, in a way that they are not in East Asia, is that the two big themes this year seem to be commodities and interest rates,” said Marc Chandler, chief strategist global Bannockburn Global Forex in New York.

The interbank rate in Mexico stands at a historical level of 9.25% and that of Brazil reaches a record of 13.75%. Both references offer some of the highest spreads in the market against the interest rates of the Federal Reserve (Fed) of the United States.

But electoral volatility in Brazil could take some of the shine off the South American currency. Brazilians head to a ballot on October 30 between former president Luiz Inácio Lula da Silvoh the current president Jair Bolsonaro.

“If Lula wins by a wide enough margin that there is no uncertainty about the results, it’s not terrible for the currency, which has the highest real yields in the world,” said Dirk Willer, head of emerging markets strategy at Citi. Research in New York.

“You don’t want to see a contested election, but I’m not sure if a Lula victory will trigger a significant downtrend,” he said, adding that an eventual decision by Lula to appoint a market-friendly economy minister would help maintain at bay exchange rate volatility.

For Mexico, however, an imminent return of capital to the United States caused by the increase in rates by the Fed could undermine the peso, to which are added expectations of a slowdown in the world’s largest economy.

“At the latest by the beginning of 2023, the depreciation of the Mexican peso will have to come,” said Alfredo Coutiño, head of Latin America at Moody’s Analytics, who estimates that the correction will subtract up to 20% from the currency, although this could happen in the period between the end of 2022 and 2023, and even until 2024.

Such a move would take the peso back to its worst historical levels seen in 2020, of around 25 per dollar, from the current level of just over 20 pesos.

“It seems to me that next year, as the Fed continues to increase rates, Banco de México could say ‘we stay here’ and I think that factor may be hitting us,” said Carlos González, head of analysis at Monex Financial Group.

This year’s outperformance was supported by steady inflows of remittances, which reached an all-time high in July, as well as strong growth in exports and foreign direct investment inflows, analysts said.

Still, a 60% chance of a recession in the United States, Mexico’s largest trading partner, could reverse the picture.