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What the bonds tell us ... and their consequences

07 February 2019

Long-term bond rates in pesos have had a marked decline so far in 2019.

Yields on 10-year bonds have fallen 85 basis points since the end of November last year, to a level of 8.36%.

The yield on the 3-year bond falls 70 basis points to 8.17%, when at the beginning of December it reached 8.90%.

What indicates a major correction in bond yields in recent weeks?

1. Lower perception of risk: The 2019 Fiscal Package presented by the Treasury in December helped reduce the risk premium, by projecting a growth of 2%, instead of the mythical 4% offered by AMLO, without increasing the deficit or public debt. Despite the downgrade of Pemex's rating announced by Fitch, country risk has dropped 37 basis points so far this year.

2. Lower inflationary outlook: With the fall in oil prices, global inflationary pressures are moderated, allowing inflation to continue approaching the upper limit of Banxico's tolerance range (3 + -1%).

3. Lower economic growth: Medium-term rates (3-5 years) are lower than those of one year, which suggests an expectation of low growth in the coming years.

4. Fed more patient: The Fed has modified its monetary policy, reacting to a global slowdown, stock market adjustments and inflation below 2%. As a result, interest rates in dollars were depressurized, which also pushed Mexican rates down.

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Implications: A context of low growth, reduced inflationary expectations, less pressure from the Fed and country risk could motivate Banxico to modify its firm monetary stance.

A reduction in the interest rate would take pressure off the financial cost of the government (and of companies and consumers) at a time when public finances have been committed to social programs.

It remains to be seen how the foreign exchange market reacts if Banxico loosens the ropes.

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