The minutes from the last Banxico monetary policy meeting showed in the discussion that the majority of its members believe adequate to maintain the spread with the Fed, specially, in light of the
heightened risks to inflation.
The new Governor may tilt the balance in either direction but its commitment to inflation will be highly scrutinized. The market is already pricing-in a hike for the month of December with 50% probability and a full 25bps by the February meeting. In light of recent inflation print way above the market consensus and Banxico’s reassurance that headline inflation was already on a downward trend towards the goal, we prefer to hike as soon as the next meeting.
Banxico was very concerned with inflation expectations commencing to increase due to the resilience of inflation to converge to the 3.0% goal. In the minutes even one member was very hesitant to believe the goal could be reached as soon as next year. Right now, our forecast for next year 12-month headline inflation stands at 4.6%.
According with our monetary policy rule, we now see the theoretical reference rate at 7.25% by end of January of next year once headline inflation drops to 5.3% due to base effects. In this case, we could be indifferent between hiking in December or February like the market is debating right now. But following the Fed is the least risky proposition, especially considering the still uncertain NAFTA, US fiscal reform and presidential elections outcomes. All three, could potentially depreciate the Mexican peso in addition to not follow the Fed, in an already deteriorating inflation environment.
On August 2nd we recommended getting into the short-term breakeven inflation, specially buying UDI 19 or 20 and paying the corresponding TIIE on inflation keeping surprising on the upside, and we still do. We still see value in this trade, even though it has paid good return and we are leaving it open preferring the UDI 20. We see the market adjusting its implicit inflation forecast to the upside towards our own forecasts.
Column by Finamex’ Guillermo Aboumrad
