Banorte-Ixe FI/FX Strategy
Mexico
,x
Mexico Trade Idea: Buy Udibono Jun’19
and Mbono Jun’21
 We recommend buying Udibono Jun’19 with entry of 1.95%, target of
1.65% and stop-loss of 2.10%, and Mbono Jun’21 with entry of 5.60%,
target of 5.35% and stop-loss of 5.80%
July 13, 2016
www.banorte.com
www.ixe.com.mx
Gabriel Casillas
Chief Economist and Head of Research
[email protected]
 In line with our expectations, the Mexican yield curve has flattened
strongly along the year…
Alejandro Padilla
 …but with limited room for this trend to continue going forward, it
suggests more attractive value in short-term securities
Juan Carlos Alderete, CFA
 We suggest profit taking in our tactical, short term recommendation of
long positions in 10- to 20-year Mbonos, particularly those maturing on
Dec’24, Mar’26, and May’31
Head Strategist - Fixed-Income and FX
[email protected]
FX Strategist
[email protected]
Santiago Leal
Analyst Fixed Income and FX
[email protected]
 One way to take advantage of the re-pricing in short term rates and the
curve’s valuation is investing in 5- to 7-year Mbonos
 Short-term Udibonos could be an adequate and defensive strategy even if
we continue expecting inflation to end 2016 at 2.8% yoy as a much stronger
expected carry in 2H16 suggests an interesting risk/reward profile in the 3year maturity
We recommend buying Udibono Jun’19 (entry: 1.95%, target: 1.65%, stop-loss:
2.10%) and Mbono Jun’21 (entry: 5.60%, target: 5.35%, stop-loss: 5.80%). The
main drivers behind this recommendation are described below:
In line with our expectations, the Mexican yield curve has flattened strongly
along the year… Consistent with an outlook of tighter monetary policy in Mexico,
the yield curve has flattened significantly in the first half of this year. This situation
has been observed historically in most countries, as portrayed in the chart below on
the left for the US during the last decades. It is our take that the curve could
continue with this bias in the following years, albeit with a more limited margin in
coming months. For further details, see our Quarterly Outlooks for 1Q16 (<pdf>,
published on January 14, 2016) and 2Q16 (<pdf>, published on April 19, 2016). As
shown in the chart below on the right, the 2/10 slope in Mbonos went from 210bps
at year-end 2015 to 121bps as of yesterday’s close, with a limited room of 1015bps for a further contraction for the rest of the year taking into account lower
duration-adjusted carry levels. In this respect, we suggest profit taking in our
tactical, short term recommendation of long positions in 10- to 20-year Mbonos,
particularly those maturing on Dec’24, Mar’26, and May’31
1
Document for distribution among
public
U.S. curve's slope throughout monetary cycles
Yield curve slope
%, basis points
Basis Points
2/10 Treasuries spread
Fed Funds effective rate
25
350
2/10 Mexico
220
2/10 U.S.
250
20
150
15
50
10
180
140
-50
100
5
-150
0
Jan-80
Jan-89
Jan-98
Jan-07
-250
Jan-16
Source: Banorte-Ixe with data from Bloomberg
60
Jul-15
Oct-15
Jan-16
Apr-16
Jul-16
Source: Banorte-Ixe with data from Bloomberg
…but with limited room for this trend to continue going forward, suggesting
more attractive value in short-term securities. After Brexit and Banxico’s
second hike rate this year by 50bps on June 30, markets and investors have adjusted
their expectations of the central bank’s stance in coming months. As seen in the
chart below to the left, markets already discount accumulated rate hikes of 59bps
until 4Q16 and 75bps for the next twelve months, a more likely scenario especially
after the comments by Governor Carstens in the Wall Street Journal on Friday (the
interview is available in Banxico’s webpage at www.banxico.org.mx).
Nevertheless, new bouts of risk aversion in international markets could lead to
additional pressures for the Mexican peso, suggesting further actions by the
monetary authority. In particular, our Economic Research team has warned that
Banxico could hike an additional 100bps by year-end in case of even worse
conditions in international markets. For details, see: “Mexico: Banxico - It’s all
about the FX”, published on June 30, 2016, <pdf>. The chart below on the right
shows that the currency still exhibits desirable conditions to be used as a hedge for
other asset exposures in EM, particularly ahead of risk factors such as the aftermath
of the Brexit vote, China’s economic deceleration, and geopolitical drivers (U.S.
election). In contrast, one factor that could be supportive of riskier assets in EM
(inducing lower risk premiums) is the possibility of coordinated policies to address
the current global backdrop, such as a rate cut by the BoE tomorrow or joint actions
by Prime Minister Shinzō Abe and BoJ Governor Haruhiko Kuroda in Japan in the
next months.
Cumulative implicit movements in reference rates
Carry/vol and trading volume
Basis points, using interest rate futures
80
Fed
70
Banxico
75
70
Carry / 3M Vol (bps)
50
40
25
30
20
1
6
9
12
INR
80
IDR
60
COP
40
RUB
CLP
HUF
Source: Banorte-Ixe with data from Bloomberg
1Q17
2Q17
2
0
MXN
ZAR
PLN
0
4Q16
TRY
BRL
20
0
3Q16
Poor hedge
100
59
60
10
YTD
120
KRW
Good hedge
50
100
Daily volume (US$ million)
Source: Banorte-Ixe with data from Bloomberg
150
One way to take advantage of the re-pricing in short term rates and the
curve’s valuation is investing in 5- to 7-year Mbonos. In order to tackle market
dynamics after Brexit and Banxico’s hike, we believe it is appropriate to increase
exposure in the mid-end of the curve, particularly 5- to 7-year Mbonos, a segment
that has acted as an inflection point in the curve’s flattening bias as shown in the
following table. Taking into account valuation and liquidity factors (primary
market), we favor Mbono Jun’21. The next chart shows that the yield spread
between this security and the 5-year UST is at 451bps, significantly above its 12year average and median at 411 and 407bps, respectively, and inconsistent with our
country’s fundamentals. Considering market dynamics in 5-year UMS (dollardenominated sovereign), a great deal of the wider gap is a higher FX risk premium,
consistent with a more pessimistic outlook about the Mexican peso going forward
when compared to our medium term view. On the other hand, the 5y5y forward
rate stands at 6.71%, which we believe is consistent with a perspective of tighter
monetary conditions for the next years. The spread between the 5-year TIIE-IRS
and Mbono Jun’21 is at +8bps, which we forecast to remain stable during the
summer. Lastly, this Mbono has a monthly carry of 3bps.
Mbonos Performance
Spread between 5-year Mbono Jun'21 and 5-year UST
Dec'16
Yield to maturity
12/Jul/16
4.51
Weekly change
(bps)
-5
Jun'17
4.73
6
79
Dec'17
4.61
2
57
Jun’18
5.01
-1
53
Dec'18
5.14
-4
36
Dec'19
5.33
-4
10
Jun'20
5.42
-2
0
Jun'21
5.59
2
-12
Maturity date
Basis Points
470
YTD (bps)
87
Jun'22
5.68
4
-22
Dec'23
5.76
6
-29
Dec'24
5.82
7
-28
Mar’26
5.91
8
-34
Jun'27
6.05
6
-37
May'29
6.15
8
-40
May'31
6.25
7
-41
Nov’34
6.33
7
-49
Nov'36
6.35
7
-54
Nov'38
6.38
5
-53
Nov'42
6.36
4
-58
450
451
430
410
390
370
Jul-15
Oct-15
Jan-16
Source: Banorte-Ixe with data from Bloomberg
Source: Valmer
3
Apr-16
Jul-16
Short-term Udibonos could be an adequate and defensive strategy even if we
continue expecting inflation to end 2016 at 2.8% yoy as a much stronger
expected carry in 2H16 suggests an interesting risk/reward profile in the 3year maturity. Udibonos have appreciated significantly in the last two months as
investors took advantage of very attractive breakeven levels, below Banxico’s 3%
target practically in all tenors. It is our take that Udibono Jun’19 could continue
with a good performance due to three main factors: (1) Potential benefit from
valuation levels in the short-end of the curve (already mentioned above); (2)
Attractive UDIs’s carry for 2H16 even after incorporating our forecasted inflation
path of 2.8% by year-end as the expected price increase for the remaining 171 days
in the period is at 2.33% (4.91% annualized rate, see chart below on the left); and
(3) a still favorable (although less so when compared to the last twelve months)
inflation breakeven against the closest-maturity Mbono at 3.33%, along the median
market forecast inflation according to Banxico’s private sector analyst survey of
3.48% for the next 12 months, 3.39% in 2017, 3.40% in 2018, and 3.40% in one to
four years (chart below on the right). This security has a monthly carry of 2bps.
Interesting carry gains in CPI-linked securities
3- and 5-year Breakeven inflation using MBonos & Udibonos
UDIS
5.60
Implicit market inflation using Fisher’s Equation
Forecast
5.5424
5.55
3-year
5.8
5-year
5.3
4.8
5.50
Upper limit of Banxico's
inflation target range
4.3
3.8
5.45
4.0%
3.3
5.40
2.8
5.35
5.30
Jan-16
2.3
Mar-16
Apr-16
Jun-16
Aug-16
Oct-16
Dec-16
Source: Inegi for observed data, Banorte-Ixe for forecasts
1.8
Dec-09
Jan-11
Feb-12
Mar-13
Source: Banorte-Ixe with data from Valmer
4
Apr-14
May-15
Jun-16
Track of the latest fixed-income trade recommendations
Trade idea
Entry
Target
Stop-loss
Closed
Status
P/L
Initial date
End date
Long Mbono Jun'21
Long Udibono Jun'19
5.60%
1.95%
5.35%
1.65%
5.80%
2.10%
---
Open
Open
---
13-jul-16
13-jul-16
---
4.10%
456bps
4.00%
250pb
6.27%
3.87% 1
410bps
3.65%
200pb
5.83%
3.20%
3.20%
5.14%
0.82%
3.30%
3.38%
5.14%
0.82%
3.90%
4.20%
0.90%
4.67%
4.00%
4.00%
1.28%
4.65%
410bps
4.30%
1.55%
4.70%
6.40%
1.40%
5.00%
54bps
430bps
+1.20%
+1.35%
3.90%
3.85%
0.90%
4.06%
3.81%
3.85%
1.35%
4.31%
412bps
4.30%
0.97%
4.45%
5.89%
1.40%
4.69%
54bps
342bps
-6.50%
0.90%
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Closed
Profit
Profit
Profit
Profit
Profit
Profit
Profit
Profit
Loss
Loss
Profit
Loss
Profit
Loss
Profit
Profit
Flat
Loss
Profit
Loss
Loss
Profit
Profit
Profit
Loss
Profit
Loss
Profit
Profit
Profit
12-Nov-15
30-Sep-15
3-Sep-15
26-Jun-15
13-mar-15
22-Dec-14
29-Jan-15
29-Jan-15
4-Nov-14
4-Jul-14
5-May-14
11-Jul-14
6-Feb-14
6-Jan-14
7-Jun-13
10-Oct-13
10-Oct-13
9-Aug-13
21-Jun-13
7-Jun-13
19-Apr-13
15-Mar-13
1-Feb-13
1-Feb-13
1-Feb-13
11-Jan-13
19-Oct-12
21-Sep-13
1-May-12
1-May-12
8-Feb-16
23-Oct-15
18-Sep-15
29-Jul-15
19-mar-15
6-Feb-15
29-Jan-15
29-Jan-15
14-Nov-14
26-Sep-14
26-Sep-14
10-Sep-14
10-Apr-14
4-Feb-14
21-Nov-13
25-Oct-13
25-Oct-13
10-Sep-13
12-Jul-13
11-Jun-13
31-May-13
3-May-13
7-Mar-13
7-Mar-13
15-Apr-13
24-Jan-13
8-Mar-13
8-Mar-13
27-Nov-12
14-Dec-12
Receive 1-year TIIE-IRS (13x1)
3.92%
3.67%
Long spread 10-year TIIE-IRS vs US Libor
436bps
410bps
Receive 9-month TIIE-IRS (9x1)
3.85%
3.65%
Spread TIIE 2/ 10 yrs (flattening)
230pb
200pb
Long Mbono Dec'24
6.12%
5.89%
Relative-value trade, long 10-year Mbono (Dec'24) / flattening of the curve
Pay 3-month TIIE-IRS (3x1)
3.24%
3.32%
Pay 9-month TIIE-IRS (9x1)
3.28%
3.38%
Pay 5-year TIIE-IRS (65x1)
5.25%
5.39%
Long Udibono Dec'17
0.66%
0.45%
Relative-value trade, long Mbonos 5-to-10-year
Receive 2-year TIIE-IRS (26x1)
3.75%
3.55%
Receive 1-year TIIE-IRS (13x1)
4.04%
3.85%
Long Udibono Jun'16
0.70%
0.45%
Long Mbono Jun'16
4.47%
3.90%
Receive 6-month TIIE-IRS (6x1)
3.83%
3.65%
Receive 1-year TIIE-IRS (13x1)
3.85%
3.55%
Long Udibono Dec'17
1.13%
0.95%
Receive 9-month TIIE-IRS (9x1)
4.50%
4.32%
Spread TIIE-Libor (10-year)
390bps
365bps
Receive 1-year TIIE-IRS (13x1)
4.22%
4.00%
Long Udibono Jun'22
1.40%
1.20%
Receive 1-year TIIE-IRS (13x1)
4.60%
4.45%
Long Mbono Nov'42
6.22%
5.97%
Long Udibono Dec'13
1.21%
0.80%
Receive 1-year TIIE-IRS (13x1)
4.87%
4.70%
Receive TIIE Pay Mbono (10-year)
46bps
35bps
Spread TIIE-Libor (10-year)
410bps
385bps
Long Udibono Dec'12
+0.97%
-1.50%
Long Udibono Dec'13
+1.06%
0.90%
1. Carry + ro ll-do wn gains o f 17bps
Disclaimer
The information contained in this document is illustrative and informative so it should not be considered
as an advice and/or recommendation of any kind. BANORTE is not part of any party or political trend.
5
Research and Strategy
Gabriel Casillas Olvera
Chief Economist and Head of Research
[email protected]
(55) 4433 - 4695
Raquel Vázquez Godinez
Assistant
[email protected]
(55) 1670 - 2967
Executive Director of Economic Analysis
Senior Economist, Mexico
Senior Global Economist
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Analyst Fixed income and FX
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Analyst, Corporate Debt
Analyst, Corporate Debt
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Armando Rodal Espinosa
Head of Wholesale Banking
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Alejandro Eric Faesi Puente
Head of Global Markets and Institutional Sales
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Head of Asset Management
Head of Investment Banking and Structured
Finance
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Factoring
Head of Government Banking
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Head of International Banking
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Head of Corporate Banking
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Economic Analysis
Delia María Paredes Mier
Alejandro Cervantes Llamas
Katia Celina Goya Ostos
Miguel Alejandro Calvo
Domínguez
Juan Carlos García Viejo
Lourdes Calvo Fernández
Fixed income and FX Strategy
Alejandro Padilla Santana
Juan Carlos Alderete Macal, CFA
Santiago Leal Singer
Equity Strategy
Manuel Jiménez Zaldivar
Victor Hugo Cortes Castro
Marissa Garza Ostos
Marisol Huerta Mondragón
José Itzamna Espitia Hernández
Valentín III Mendoza Balderas
Director Equity Research —
Telecommunications / Media
Equity Research Analyst
Senior Equity Research Analyst –
Conglomerates/Financials/ Mining/ Chemistry
Equity Research Analyst – Food/Beverages
Equity Research Analyst – Airports / Cement /
Infrastructure / Fibras
Equity Research Analyst – Auto Parts/
Consumer Discretionary / Real Estate
Corporate Debt
Tania Abdul Massih Jacobo
Hugo Armando Gómez Solís
Idalia Yanira Céspedes Jaén
Wholesale Banking
Arturo Monroy Ballesteros
Gerardo Zamora Nanez