Risk watchdog’s call of a 25bps hike in Mexico’s benchmark interest rate to 8.00% on July 18, based on poor inflation data and rising price expectations, proved correct, and supports the long-held bullish stance towards the Mexican peso. The hawkish decision by Banxico helped the peso break five-year highs of MXN10.22/US$, pushing on towards my MXN10.00-10.10/US$ short-term target.

Bull Run Continues
Mexico – Exchange Rate, MXN/US$

Source: Risk Watchdog

With inflationary pressures persisting, the possibility of an additional hike over the coming months combined with a negligible trade deficit means Risk Watchdog holds the view of further MXN appreciation, especially given the unlikelihood of the US Federal Reserve tightening its rates anytime soon. Despite the US economic downturn, a relatively stable economic outlook and favourable carry means the peso should reach the short-term target of MXN10.00-10.10/US$, a break of which could see future strengthening towards MXN9.00/US$.

Additionally, the MXN/EUR cross rate shows the two-and-a-half year resistance being tested. A break of MXN16.10/EUR would paint a very bullish picture from a technical perspective.

Testing Times
Mexico – Cross Rate, EUR/MXN

Source: Risk Watchdog

One threat to this view could be a significant reversal in global oil prices, with oil comprising 19% of Mexican exports. Prices of Brent crude have already depreciated almost 9% in July, and with much needed energy reforms now under threat, a combination of declining prices and production could see a widening of the trade deficit, which in turn could threaten currency strength.

Key support levels to watch fro front month Brent are US$128.00/bbl and US$122.00/bbl. If the latter gives way, we’ll see a pretty swift drop towards the US$100.00/bbl mark. This, of course still represents a high price of oil, which will continue to benefit Mexico’s balance of payments.