The recent US rhetoric has eased some NAFTA anxiety. Comments from US Treasury Secretary Mnuchin and Commence Secretary Ross have eased some of the anxiety that had built around the NAFTA renegotiation, a Damocles sword hanging over the Mexican currency.  Ross said that negotiations will likely commence before year-end.

While MXN-positive in the near term, we are still wary of the bargaining power that an exiting administration will have, both locally and externally (bear in mind that Mexican Presidential elections are scheduled for June 2018).

The Foreign Exchange Commission innovates by offering FX hedge in local currency. The authority announced an FX hedge-program settled in local currency for up to $20bn, with the first auction taking place on March 6, for $1bn. The FEC emphasized that the measure aims to offer FX hedges without affecting the international reserves.

Granted, Banxico’s new tool does not come as a surprise, as we have pointed out both the need and the likelihood of local currency settle FX hedge. Yet, the market reacted positively to the innovation, as the monetary authority now has ammunition to counter volatility overshoots, making the MXN carry-to-vol more attractive going forward.

The bullish & bearish scenarios: USDMXN at 22.5 in H2’17 on 1) Disorderly renegotiation of NAFTA; 2) Mounting political risk; 3) Sovereign downgrade; 4) The stronger USD on the back of inflation pressures/tighter labor market.

USDMXN at 19.5 in H2’17 on 1) Ordered and limited trade-related negotiations; 2) Banxico hikes policy rate more aggressively to appease inflationary pressures.