Deteriorating Technicals Suggest Weakness Ahead For Regional FX

Latin American exchange rates have taken out several key support levels in recent days and we see scope for further depreciation in the coming weeks. Ongoing US dollar strength, a sovereign default in Argentina, and a sell-off across emerging and developed market assets underpin this view. Standard & Poor's declared Argentina to be in selective default on July 30 after missing a coupon payment on its restructured debt. Further delays in working out a deal for the Argentine government to pay bondholders, or an acceleration in claims from other creditors via cross-default provisions, could see a significant deterioration in investor sentiment towards Latin American assets ( see 'Settlement With Holdouts Still Likely After Default', July 31). In addition, a sustained break key of resistance at 81.17 for the US dollar index would be a strong signal that a more prolonged period of weakness in regional FX is on the cards.

The Mexican peso (MXN) remains one of our favourite regional currencies from a fundamental standpoint, but a significant deterioration in the technical picture has tempered our bullishness in recent days. Indeed, sharp MXN weakness and a break of key support for the peso against the euro informed our decision to exit our bullish MXN versus euro view in our Asset Class Strategy on July 31 ( see 'Closing Bullish Mexico Peso Against Euro View', July 31). Following a break of trendline support around MXN13.00/USD, the unit is now approaching key trendline support around MXN13.25/USD. While regional currencies, including the MXN, have pared back some of their losses in recent trading, suggesting a period of consolidation in the near term, a sustained break of this level could see the peso head back towards its 2014 low of MXN13.50/USD in the first instance.

Moreover, the monthly chart shows little significant technical support between MXN13.25/USD and MXN13.90/USD. While our core view is not for such a significant sell-off, and the unit has held support at MXN13.25/USD at present, a sustained correction in global markets could see substantial further depreciation for the MXN.

Appreciatory Trend On Ice
Mexico - Exchange Rate, MXN/USD (Weekly)

Deteriorating Technicals Suggest Weakness Ahead For Regional FX

Latin American exchange rates have taken out several key support levels in recent days and we see scope for further depreciation in the coming weeks. Ongoing US dollar strength, a sovereign default in Argentina, and a sell-off across emerging and developed market assets underpin this view. Standard & Poor's declared Argentina to be in selective default on July 30 after missing a coupon payment on its restructured debt. Further delays in working out a deal for the Argentine government to pay bondholders, or an acceleration in claims from other creditors via cross-default provisions, could see a significant deterioration in investor sentiment towards Latin American assets ( see 'Settlement With Holdouts Still Likely After Default', July 31). In addition, a sustained break key of resistance at 81.17 for the US dollar index would be a strong signal that a more prolonged period of weakness in regional FX is on the cards.

Appreciatory Trend On Ice
Mexico - Exchange Rate, MXN/USD (Weekly)

The Mexican peso (MXN) remains one of our favourite regional currencies from a fundamental standpoint, but a significant deterioration in the technical picture has tempered our bullishness in recent days. Indeed, sharp MXN weakness and a break of key support for the peso against the euro informed our decision to exit our bullish MXN versus euro view in our Asset Class Strategy on July 31 ( see 'Closing Bullish Mexico Peso Against Euro View', July 31). Following a break of trendline support around MXN13.00/USD, the unit is now approaching key trendline support around MXN13.25/USD. While regional currencies, including the MXN, have pared back some of their losses in recent trading, suggesting a period of consolidation in the near term, a sustained break of this level could see the peso head back towards its 2014 low of MXN13.50/USD in the first instance.

Break Of MXN13.25/USD Would Spell Further Downside
Mexico - Exchange Rate, MXN/USD (Monthly)

Moreover, the monthly chart shows little significant technical support between MXN13.25/USD and MXN13.90/USD. While our core view is not for such a significant sell-off, and the unit has held support at MXN13.25/USD at present, a sustained correction in global markets could see substantial further depreciation for the MXN.

Watching For A Sustained Break
Colombia -Exchange Rate, COP/USD (Weekly)

The Colombian peso (COP)'s rally has also run out of steam, suggesting that further weakness is likely in the coming weeks, despite relatively robust macroeconomic fundamentals. We highlighted in our regional FX strategy last week that the unit looked to be forming a base around COP1,845/USD and was likely to depreciate in the next several weeks, as central bank policy remained geared towards weakening the peso in order to boost export competitiveness ( see 'Central Bank To Halt COP Rally', July 25). A weekly close confirming a break of support around COP1,870/USD would reinforce our view that the unit will trade weaker in the coming months, between COP1,900-1,950/USD. Although not our core view, a sustained period of risk-off sentiment could see the unit head back towards its 2014 low of COP2,066/USD, approximately a 9.6% move from the current level.

One risk to our view for COP weakness stems from the potential for sharp capital inflows to bolster the Colombian peso. A further increase in the weighting of Colombian local debt on JP Morgan's GBI-EM Global Diversified index or a reduction in the Colombian government's tax on foreign holdings of local debt could see notable capital inflows, bolstering the unit.

BMI AMERICAS ASSET CLASS STRATEGY
  DATE INITIATED ENTRY LEVEL GAIN/LOSS RATIONALE
         
CURRENCIES        
N/A        
FIXED INCOME        
Receiver Position Brazilian DI Futures January 2017 23-Jul-14 11.14 -45bps Weak economic activity and low consumer and business confidence will see the Brazilian central bank cut interest rates in 2015, informing our view for further compression in interest rate futures in the coming months
EQUITY INDICES        
Eurozone Over US Equities (Ratio of MSCI US to MSCI EMU) 15-Aug-13 17.30 -4.10% Though we still like the US, eurozone underperformance has reached extremes, and the eurozone economy is picking up momentum. The MSCI EMU looks attractive on a technical basis and is increasingly cheap versus the US. Targeting a move down in the US/EMU ratio to 14.0x.
Mexico's IPC Over Chile's IPSA 20-Mar-14 10.80 4.43% Mexican equities will benefit from strong economic integration with the US while Chile's economy will continue to face headwinds from softening Chinese demand for industrial metals.
         
SECTOR STRATEGY        
Bullish US Solar 23-Jun-14 219.73 -10.42% US solar panel manufacturers will see their fortunes improve off the back of the increased cost competitiveness and viability of solar technology
Updated 8/1/14. Source: Bloomberg, BMI.
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