Can the Mexican Peso Recover from its Drastic Fall?

Markets are increasingly linking the fate of the peso to its northern neighbor's trade policies.

This article was written by Phil Moore, a full time retail trader with over ten years’ trading experience.

The Mexican peso has so far been one of the biggest losers following the confirmation of Donald Trump’s US Presidential victory. The currency fell 10% as soon as the election result was announced.

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Early trading on the USD/MXN post-election has so far looked like one way traffic. However markets rarely move in a straight line up or down. Brokers from around the globe have already started to increase margin requirements on the pair. The expectation of higher volatility and the possibly of central bank intervention are leading them to cover traders’ positions.

The most recent losses have come on the back of longer term falls in the value of the currency. Over the 12 months prior to the election result the peso had already fallen 12.7% against its US counterpart. The latest falls have simply accelerated this downward trend.

Much of the longer term fall can be attributed to lower oil prices. The Mexican economy has a huge reliance on oil, with the commodity accounting for more than 13% of its total exports. Needless to say, the fall from more than $100 USD per barrel to lows of $20 USD in the second half of 2015 had a severe impact on GDP.

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While the Mexican central bank has tried to increase the attractiveness of its currency by raising rates (a full 0.5 percentage point in September), its reaction to the recent fall has been to do nothing. Instead of jumping to the rescue of the currency its response has been somewhat muted so far. This is despite rhetoric prior to the election result of the possibility of intervention or a further rise in rates to defend its position.

The bank does however sit in good hands. Governor Agustin Carsten’s is generally regarded as calm and strategically astute. It is thought he is unlikely to be pressured into making a wrong decision.

It seems that the bank is thus far content to see how things play out. By not showing its hand too early it may give itself room for manoeuvre later down the road. Perhaps the country’s biggest fear is exactly how much Trump’s proposed policies will affect the Mexican economy. Certainly at present, no one knows quite how much campaign rhetoric may translate into real policy. Markets however are increasingly linking the fate of the peso to its northern neighbor’s trade policies.

The Mexican economy is forecast to grow by 2.33% next year, rising to 2.95% by 2020. These figures however are likely to be tempered by inflation if the currency rout cannot be reined in. Add in a growing current account deficit and rising levels of debt and the forecast for the peso does not look so rosy.

There could however be a unlikely savior for the Mexican economy. The country is one of the largest export markets for US natural gas, accounting for nearly 6% of total production. This figure has increased markedly in recent years. Provided economic growth can be maintained, this trend looks set to continue. Certainly a lot has been invested in pipelines across the border by US suppliers.

If Trump sticks to his pre-election manifesto of tearing up US trade pacts with its southern neighbor then he is danger of severely hurting a shale industry which is struggling to deal with an oversupplied market. At current prices, much of the US shale industry is already walking a tightrope between profit and bankruptcy. To cut off a major supply route which is helping deal with the current surplus could have disastrous consequences for the US oil and gas industry.

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