Why the Mexican peso is making the market more attractive (Part 2)

marketrealist.com
By Sr Emerging Markets Analyst • Sep 27, 2013


The peso and foreign exchange

Going forward, there are two main forces affecting the Mexican peso’s foreign exchange.

1. US monetary policy
2. The pace of Mexican reforms

The US monetary policy effect is limited

The first of these forces is actually “self-hedged.” If the United States starts tapering, then the dollar will strengthen and the peso will likely fall, but the Fed won’t taper unless the economy is recovering. The Mexican economy strongly depends on the health of the US economy, and the Mexican Bolsa is usually pushed by the S&P500. The United States is Mexico’s largest trading partner, so a strong United States means a stronger Mexico. Any currency depreciation may be offset by recovery in the Mexican economy.

Mexican reforms have a big upside

The second force carries more upside than downside. The reforms have been an ongoing theme for a while, and finally, the pace of reforms seems to be picking up. If the reform pace picks up and some results become visible, the main upside is that the rating agencies may upgrade Mexico’s sovereign rating, which would justify valuation multiple expansion in the market and strengthen the currency. If the reforms don’t move as fast, the downside is more limited.

Outlook not valid for short horizons

It’s important to keep in mind that this view has a medium-to-long-term timeframe in mind. In the short term, the Mexican peso may continue to depreciate and the market may contract as well, which would not bode well for international investors. However, in the long term, these fundamental dynamics make sense.