In Bond Market, ‘El Chapo’ Escape, Auction Flop Feed Disillusion

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For a country already struggling to stem growing pessimism among bond investors, Mexico last week only helped deepen their disenchantment.

It started with news of the politically embarrassing prison escape of Joaquin “El Chapo” Guzman, a man the U.S. once called the world’s most powerful drug trafficker. Then came an auction of 14 oil blocks -- the first step in Mexico’s historic push to dismantle its seven-decade monopoly -- and it largely flopped. Only two blocks drew bids high enough to warrant contracts.

Together, they contribute to a current of disappointment that has dogged Mexico this year, according to Nomura Holdings Inc. The economy has failed to live up to expectations, and its currency is trading at a record low. The nation’s peso debt has saddled investors with 5.1 percent losses this year in dollar terms, while emerging-market local bonds on average were little changed.

To bondholders like San Diego-based LM Capital LLC’s Luis Maizel, the events also undermine confidence in President Enrique Pena Nieto, who remained in Paris last week on a state visit with his wife.

“It definitely creates an uncomfortable situation where Mexico is no longer the darling in the eyes of investors,” Maizel, who helps manage about $6 billion in assets, said by telephone. “You start adding one after the other and you say, ‘You know, what the heck is going on?’ If there’s a storm, you want the captain to be on the bridge. You don’t want the guy to be cruising the Champs Elysees.”

Guzman Escape

Guzman’s escape outraged and angered Mexican society, Pena Nieto said in a speech in Mexico City on Friday after arriving from France, where he was a guest of honor at the country’s annual Bastille Day festivities.

Pena Nieto said he had “full confidence” that security forces would catch the kingpin again. He also said the trip was needed to strengthen ties and repair a “fractured” diplomatic relationship.

Guzman vanished July 11, and guards found an almost mile-long tunnel equipped with lighting, ventilation and a motorcycle on rails, the government said. He had been captured in February 2014, 13 years after he sneaked out of another maximum-security prison in a laundry cart.

Following the oil auctions last week, Finance Minister Luis Videgaray acknowledged that participation was less than expected, while praising the transparency of the process and calling it “a good first step.” A press official at the Finance Ministry didn’t respond to a request for further comment.

“The two things together are bad for confidence,” Benito Berber, an analyst at Nomura, said by telephone from New York.

Growth Outlook

New laws that allow private drilling for the first time since 1938 helped make Mexico a favorite among foreign bond investors from Pacific Investment Management Co. to BlackRock Inc., which were betting on an economic resurgence. But the collapse in oil prices upended the trade as Latin America’s second-biggest economy consistently fell short of growth projections.

Earlier this month, the International Monetary Fund cut its forecast for the third time this year. It now estimates gross domestic product will climb just 2.4 percent in 2015, down from a previous projection of 3.1 percent.

Weaker Peso

The peso’s 7.9 percent drop against the dollar this year has compounded losses for bond investors. The currency fell to 16.0243 per dollar as of 3:26 p.m. Monday in New York and earlier touched the lowest since the government redenominated the currency in 1993.

JPMorgan Chase & Co. analysts led by Diego Pereira revised their peso forecast lower Thursday, citing the “disappointing” oil auction. A weaker peso threatens to further swell losses for bond investors.

“It’s been a big disappointment in terms of financial assets,” Edwin Gutierrez, who helps oversee about $13 billion in emerging-market bonds at Aberdeen Asset Management Plc, said by telephone from London. “We’re realizing that this outperformance that we expected isn’t panning out.”

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