The End of the Mexican Super Peso
If this pattern repeats, by March 2028: USD/MXN could be around 28.8 USD/COP 6,840, USD/BRL could be around 9.4. For a Latin American importer, such currency movements could be game over.
Since the pandemic, borrowing in yen and investing in the Mexican peso became a popular trade. The abundant liquidity of the Mexican peso made this trade particularly attractive. This is what's known as a carry trade.
MXNJPY Vs USDMXN, USDBRL, USCOP.
The funds that implemented this trade secured more than 60% returns just in currency alone. The yield on 10-year Mexican bonds soared from 5.2% to 10.5%.
The strategy of borrowing money in Japan at nearly 0% interest and investing in Mexican bonds at 10.5% created the Super Peso. The narrative of nearshoring and the need for resilient supply chains supported the Super Peso. Additionally, remittance flows created a steady stream of capital that bolstered this trade.
But cracks are beginning to form in the Super Peso's armor. With Mexico's elections and the ruling party, led by Claudia Sheinbaum, gaining a majority in the Senate, the risks are increasing. The situation becomes even more precarious as the Bank of Japan increases rates while the Bank of Mexico signals the start of a rate-cutting cycle.
Adding to this mix, a disappointing U.S. jobs report is stirring fears of a possible recession in the next 12 months, which could heavily impact Mexico's growth.
The carry trade is the most crucial signal for Latin American currencies. The last time a carry trade unwound was between April 2013 and November 2016, spanning 43 months. During that period, the USD/MXN exchange rate skyrocketed from 96 to 161.
However, the most significant volatility wasn't in Mexico; it was in Brazil and Colombia. The Brazilian real (USD/BRL) jumped from 2 to 4.49. Meanwhile, the Colombian peso (USD/COP) surged from 1,800 to 3,300.
If this pattern repeats, by March 2028:
USD/MXN could be around 28.8
USD/COP could be around 6,840
USD/BRL could be around 9.4
Trying to time the short-term movements of currencies is futile, but understanding the drivers behind the trend is essential. The Carry trade is the most important signal for currencies, amplified by fiscal imbalances, current account deficits, and political noise in each country.
For a Latin American importer, such currency movements could be game over for their cost structure.
For a Latin American saver, it's crucial to keep a significant portion of their savings in dollars.
If you are a Latin American importer and want to develop a currency hedging strategy to protect your business from these risks, please don't hesitate to write me directly. Together, we can explore strategies to safeguard your operations against currency volatility.
Thanks for reading,
Guillermo Valencia A
Cofounder of Macrowise
México City
August 16th, 2024