An uncertain week for Mexico brings investors full circle

Trump said late Friday he would drop plans for tariffs on Mexico after the country promised new steps to stem an influx of illegal migration into the US

Mexico's President Andres Manuel Lopez Obrador holds a news conference at the National Palace in Mexico City, Mexico, June 7, 2019. REUTERS/Edgard Garrido
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Between President Donald Trump’s tweets, constant-yet-contradicting updates on trade talks and a surprise downgrade, it was hard to keep track of Mexico this past week.

Each headline sent assets falling or rising as investors tried to get their head around the flood of information. Dazed and none-the-wiser on the outlook for tariffs and assets, markets ended the week mostly little changed.

The peso, Latin America’s most traded currency, plunged 0.8 per cent on Monday, only to rally 1 per cent the day after, before dropping - then rising - yet again. Equities had a similar whiplash, gaining for three days, and then promptly falling. Mexico’s 10-year benchmark dollar bonds ended five days of swings at almost the same level they were at last Friday.

The main question on investors’ minds was whether the administration of President Trump, the self-declared ‘Tariff Man’, will make good on his promise to impose a 5 per cent levy on Mexican goods starting Monday.

Mr Trump said late Friday he would drop plans for tariffs on Mexico after the country promised new steps to stem an influx of illegal migration into the US.

That tariff was set to rise every month to a 25 per cent maximum unless Mexico can stem migration. While the Latin American nation has proposed sending national guard troops to its southern border with Guatemala to slow the flow of undocumented migrants.

“It’s not clear what Trump exactly wants,” Pablo Riveroll, head of Latin American equities at Schroders in London, who helps manage about $35 billion (Dh128bn) in emerging market assets, said before Mr Trump’s announcement. A breakdown in trade relations “was meant to be a big fear that was done and dusted. Now that’s back on the table”.

Mr Trump tweeted earlier Friday that there was a “good chance” that the two sides would make a deal - a very different tone from the one he struck just two days before, when he said “not nearly enough” progress was being made in the talks. The peso rallied on the Friday comment, but market watchers worry that a lack of clarity about what a deal would look like could not only lead to tariffs, but also push back the ratification process of the USMCA trade agreement between the US, Mexico and Canada.

Investors are still looking ahead to Saturday, when President Andres Manuel Lopez Obrador will hold a rally in Tijuana.

“Unfortunately, there’s a mixing of migration with commercial matters,” Mr Lopez Obrador said in a press conference Friday morning. “It’s not taking into account what’s happening in Central America, the profound crisis taking place.”

The open field of negotiations and wide range of possible outcomes had left investors positioning for possible generalised tariffs. JPMorgan said in a report this week that investors should be underweight the Mexican peso as trade tensions increase. Schroders’ Mr Riveroll said that all of his Mexican investments have been defensive and in companies that are not exposed to the US cycle or depend on manufacturing from Mexico into the country’s northern neighbour.

“I would be worried about banks, partly because they are more cyclical,” he said, adding that while his defensive call was based on what he sees as a coming slowdown in Mexico’s economy, his position would also help defend against potential tariff impacts.

State-owned oil company Pemex was another source of volatility for Mexican assets this week. Fitch Ratings cited the risk from the company’s deteriorating credit profile to Mexico’s public finances in its decision to downgrade the sovereign debt rating to BBB. A day later, the ratings firm cut Pemex to junk, setting the stage for a scenario that could see the company’s debt pushed off several major indexes, leading to a forced sell-off from investors who can’t invest in junk bonds.

For now though, trade negotiations should continue to be the main driver for Mexico. Analysts see the peso particularly at risk, expecting the currency to slide nearly 11 per cent to 22 per dollar if the full 25 per cent levy kicks in. The currency is 1.3 per cent away from 19.88 per dollar, it’s next possible support level. If the tariffs are delayed, traders could push it to test its 200-DMA at 19.3643 per dollar. Analysts say it could rally toward 19.00 if tariffs are dodged.

The peso was little changed this week after plunging almost 2.9 per cent the week before amid Mr Trump’s initial tariff threats.

“We all know there will be a deal,” said Jens Nystedt, a portfolio manager at Emso Asset Management in New York. “Just at what price?”