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An economic reality check for Mexico and the peso

Posted on: 18 February 2019 , by: Darren Sinden , category: Market Review

Trend: USDMXN moves to bull trend as concerns about growth in the country mount

Mexico elected a new president in 2018. Andrés Manuel López Obrador or ‘AMLO', a left-leaning populist, came to power in last year's election after having failed to win in previous campaigns in 2006 and 2012. He won July 2018's poll with 53% of the votes, the first outright majority in the country since 1988. Markets were initially wary of the President-elect, though they appeared to have warmed to him by the time he took up his post on the 1st of December 2018.

Amlo’s new administration was given the benefit of the doubt by the markets after he promised to repay investors in an airport project, controversially cancelled under the previous regime.

Rising levels of debt and concern

However, three months down the track the market is becoming ever more critical and concerned about the state of the country’s economy and its relationship with their near neighbour, the USA.

The state oil company, Pemex, is on the brink of a downgrade to junk status by rating agencies. The company is the most indebted oil major in the world with US$107bn of outstanding liabilities. Such is the scale of the problem that Mexican government debt now trades above the debt of emerging markets, which are rated two grades lower than the oil-rich state.

An economy reliant on the USA

President Obrador has vowed to rescue Pemex, but it's unclear how or where he would find the money to do so. The Mexican economy grew at just +0.3% in the fourth quarter of 2018 and at an annual rate of +1.8%, well below the previous figure of +2.5%.

Mexico is heavily reliant on trade with the USA and with the future path of the world’s largest economy unclear the market is concerned about the knock-on effects for Mexico. The chart below shows US and Mexican GDP growth rates over the last five years.

Mexico GDP growth rate

The peso is weakening

The Mexican peso has weakened versus the US dollar, falling by -2.29% over the last month. In the early part last week the USDMXN pair moved to bull trend in my model by trading above 19.20, the model now expects the rate to rise with the dollar strengthening against a weaker peso.

I note that this trend has the second highest strength score available, one of only four such trends among the main dollar pairs and crosses and that the model's price objective is 19.65.

On this occasion, I think it's possible that the model is too conservative in its forecast.

On the chart below (a four-hour plot of USDMXN) I have drawn some horizontal resistance lines in yellow, and we are testing towards the first of these (19.4634) as I type.

Momentum has been building

A move above here and $15.78 could be the precursor to a more significant move higher, through levels such as the 4th of January high at 15.87, and the 30th of January high print of $15.978. I note that the recent high is up at $16.185.

The dollar has seen upside momentum against the peso since the 8th of February, posting bullish candles on both the 11th and 13th of the month. The first of our resistance lines was a failure point back in early January but if we can break above here, as I believe is possible, then we could quickly move to second of our lines found at 19.62 an area that acted as support in late December. If the current momentum is maintained, then the third our resistances at 19.7258 would be our next upside level with 19.95 as the one to watch for after that.

USDMXN

Macro catalysts

The closing stages of February and early March will see the release of Mexican inflation, unemployment and GDP data. While in the USA we have the FOMC minutes, durable goods and PMIs, all of which are capable of moving the dial further against the peso.

A sustained close or move above the first of our resistances could act as a call to action while any stop losses on long positions could be placed below the trend change price of 19.20.

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