Weekly Latin America Risk Monitor: Divergence

Conclusion: Both prices and policy outlooks came in largely divergent on an intra-regional basis.

 

This is the first installment of our now-weekly recap of prices, economic data, and key policy events throughout Latin America. We’re aiming to keep our prose tight here, so if you’d like to dialogue more deeply regarding anything you see below, please reach out to us at .

 

PRICES

 

From an equity market perspective, “divergence” was the name of the game this week. One could drive a figurative truck through the 670bps spread between the best performer (Peru’s Lima General Index) and the worst performer (Brazil’s Bovespa). Latin American FX rates were also divergent, with a 100bps spread between the best performer (Chilean peso) and the worst performer(s) (Argentine peso and Brazilian real) vs. the USD. Interestingly, the options market is bearishly positioned on every major Latin American currency vs. the USD over various durations (3wk, 3mo, and 1yr).

 

On the credit front, there was nothing spectacular to write home about other than a significant widening of yield spreads relative to US Treasuries. On the flip side, however, CDS declined broadly with Argentina being the lone holdout to the upside.

 

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CORRELATIONS

 

Like Asia, we’re seeing a broad-based pickup in positive correlations between Latin American equity markets and currencies and the S&P 500 over shorter durations. It remains to be seen whether or not this is something we should expect to continue over the near-to-intermediate term, however.

 

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KEY ECONOMIC & POLICY DATA

 

Brazil:

  • Brazil’s June trade data was rock solid: Export growth accelerated to +38.6% YoY and its YoY Trade Balance growth was up sequentially to +$2.2B. Still, a weak June Manufacturing PMI report (slowed to 49 vs. a prior reading of 50.8) may foreshadow a near-term pullback in Brazil’s overseas sales.
  • By breaking out the composition of Brazil’s YTD dollar inflows, the central bank exposed Brazil’s recent capital controls for what they really were – attempted currency devaluation. With only 16.5% of the total dollars flowing into Brazil’s fixed income market, Finance Minister Guido Mantega certainly has some explaining to do regarding his relentless quest to “ban the speculators”. Interestingly, President Rousseff was out today saying that Brazil isn’t considering additional steps to curb real appreciation, citing inflation as her “bigger priority”. We’ve been saying that all along and have been appropriately bearish on Brazilian equities since November.
  • Speaking of inflation, Brazil’s CPI accelerated in June to +6.7% YoY – a six year high. We remain bullish on the slope of Brazilian CPI through the next 2-3 months, and as such, we continue to anticipate incremental tightening out of Brazil’s central bank. Further, we continue believe structural inflation has the potential to take hold in Brazil under the current structure of monetary and fiscal policy.
  • Two buy-side funds ran a story in the Financial Times warning about the potential for the Brazilian consumer to drift into a household debt “death spiral”. With consumer credit running at rates north of +20% YoY (well beyond the central bank’s +13% target) and an average debt service burden of ~24-28% of household disposable income, we certainly see reason for caution here. That said, however, hyper-bearish stories like this tend to surface after an -11.2% YTD equity market move. We’ll proceed very carefully here.
  • Brazil’s Finance Ministry is preparing to issue dollar bonds abroad for the first time since September in attempt to take advantage of the falling yields (down nearly -75bps YTD). The bonds are more than likely to be of the 10Y or 30Y duration, as officials look to continue extending Brazil’s sovereign debt maturity profile.

Mexico:

  • Both of Mexico’s key corporate surveys slowed in June: the IMEF Manufacturing Index fell to 53.3 vs. a prior reading of 53.7 and the IMEF Non-Manufacturing Index fell to 52.5 vs. 53.1. The slowdown is supportive of our bearish call on the Mexican peso (MXN) and our cautious outlook for Mexican equities.
  • On the flip side, Mexican Consumer Confidence increased sequentially to 93 in June, supporting the central bank’s view that the Mexican consumer remains robust enough achieve its aggressive 2011 GDP growth estimates.
  • Mexican CPI came in flat on a sequential basis at +3.3% YoY – also supportive of our bearish MXN thesis. The Mexican interest rate futures market continues to price in marginal dovishness out of Agustin Carstens and Co.
  • The US and Mexican governments came to terms on an accord that will resolve a 15Y cross-border trucking dispute, with the Mexican government agreeing to suspend punitive tariffs worth about $2.4B of US goods in exchange for increased trucking safety.

Chile:

  • Chile had a mixed bag of data this week with its Economic Activity Index accelerating in May to +7.3% YoY vs. a prior reading of +6.3% and its Export and Trade Balance growth both slowing sequentially in June to +17.1% YoY and -$573.9M YoY, respectively.
  • Finance Minister Felipe Larrain, a non-voting member of the central bank board, said that Chile is close to the end of its tightening cycle, citing “reduced priced estimates”. We are of the view that a likely 2H slowdown in Chilean economic growth is also a factor.

Peru:

  • The central bank kept its benchmark interest rate flat at 4.25%, citing uncertainty over new president Ollanta Humala’s economic policies. We remain bearish on socialism and Big Government Intervention over the long-term TAIL and would look to short Peruvian equities, its currencies, or its sovereign debt on any signs of either going forward. Socialism continues to be a failed experiment in Venezuela – where Humala’s mentor Hugo Chavez has presided over since 1999.

Venezuela:

  • In the latest sign that socialism is not a sound economic policy, Venezuelan CPI accelerated in June to +23.6% YoY. Not much else needs to be said here.

Darius Dale

Analyst


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