Bank of Mexico Is Betting $8.6 Billion on Ending Peso’s Plunge

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Peso traders gave Mexico policy makers a vote of approval Friday, sending the currency to its biggest gain in more than two months after policy makers acted to stop a rout.

The peso jumped 1 percent to 16.1088 per dollar Friday, the most since May 14, bolstered by the central bank’s pledge to buy at least $8.6 billion of pesos in the next two months to provide support. The currency extended gains as central bank Governor Agustin Carstens said Mexico could bolster its interest rate sooner than expected to stem peso volatility.

“The central bank brought confidence back to the markets,” said Javier Benavides, the head of currency trading at Banco Base in Monterrey, Mexico.

The Bank of Mexico’s announcement Thursday that it was stepping up support for the currency came after the peso tumbled to record lows amid a broader emerging-markets selloff. It was the best option for policy makers seeking to keep interest rates at a record low until the Federal Reserve embarks on its first increase since 2006, according to Alberto Ramos, the chief Latin America economist for Goldman Sachs Group Inc. in New York.

“When you do an overall analysis of what’s going on, this seems like an appropriate response,” Ramos said. “This kind of intervention may not work, but it won’t make things worse.”

Raising rates could have restrained economic growth, which has fallen short of analysts’ estimates in eight of the past 12 quarters.

Risk Aversion

Investors’ had been wagering that the opening of the country’s oil industry to foreign producers would spark a surge in capital inflows. Indeed, the peso, the most-traded currency in emerging markets, was forecast by analysts at the start of the year to strengthen the most in the world.

Instead, it has weakened 8.2 percent, for reasons that include a growing aversion to riskier assets and the tumble in oil prices that have damped the outlook for energy investment.

Since December, the central bank has sold about $6 billion to support the currency, through daily dollar sales and extraordinary auctions designed to damp volatility.

Starting Friday, it will almost quadruple daily dollar sales to $200 million. The extraordinary auctions, also for $200 million, will be triggered whenever the peso weakens more than 1 percent in a given trading session; previously, the threshold was 1.5 percent.

The peso gained as much as 1.6 percent Friday, the biggest intraday increase since March 20.

Peso Volatility

Peso-denominated bonds have lost 8.4 percent in dollars this year, while the average emerging market debt has dropped just 0.3 percent, data compiled by Bloomberg show. The benchmark IPC stock index has gained 3.7 percent this year.

Swap rates -- used to bet on future borrowing costs -- show that bond traders expect Mexico’s central bank to start raising rates shortly after September, when the Fed is projected to embark on its own increases.

Mexico has kept its benchmark rate at a record low 3 percent since June 2014. Even with the plunge in the peso, there’s been little pressure on inflation, which tracked at a 47-year low of 2.87 percent last month.

Carstens, speaking in an Enfoque radio interview on Friday, said that if peso volatility continues, Mexico could raise interest rates independent of what the Fed does.

“We have sent the signal that, if necessary, we can raise interest rates at any moment,” Carstens said.

‘Enormous’ Reserves

In the announcement about stepped-up intervention Thursday, officials highlighted international reserves that have more than doubled since the aftermath of the 2009 financial crisis; in January they reached a record $196 billion. The country also has a $70 billion flexible credit line from the International Monetary Fund.

While the intervention means dipping into the reserves, the current level is considered “enormous,” equivalent to about 15 percent of gross domestic product, said Kathryn Rooney, macroeconomic strategist at Bulltick Capital Markets.

Policy makers also said the risks for Mexico’s economy have increased since the last meeting in June. The board highlighted weakness in non-auto manufacturing, mining, construction, exports and investment.

Under those conditions, the central bank’s dollar sales look preferable to a rate increase for bolstering the peso, said Juan Carlos Alderete, a strategist at Grupo Financiero Banorte SAB in Mexico City.

“This was the right policy move,” Alonso Cervera, the chief Latin America economist for Credit Suisse Group AG, said from Mexico City. “This is what reserves are for. If they’re not using reserves at a time when people are abusing the liquidity in the peso, then they’ll never use them.”

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