Mexico Snaps Six Day Advance, Correlated with Equities

The Mexican peso is losing ground against the dollar today for the first time in seven sessions. The peso's heavier tone is consistent with the generally heavier tone among emerging market currencies today. Concerns about global growth, with softer than expected PMI readings from China and Europe, concern that China may still hike rates, and the uncertainty facing a second aid package for Greece may all be conspiring to spur some profit-taking in the peso.

During this run, the peso appreciated 2.3% against the dollar, the most in Latin America, and better than most emerging market currencies, save the Hungarian forint and Polish zloty. Part of the peso surge seems to be a function of market positioning. Throughout most of June, and actually beginning back in late April, the net speculative position at the IMM had been reduced and stood at its lowest level since last September. This coincided with the sharp cut in cetes holdings by foreign investors. Speculative players appeared to have been chasing the peso higher last week, as risk appetites returned following the successful Greek austerity vote.

The PRI had a strong showing in the weekend elections and the easy victory in the state of Mexico underscores the seriousness of its challenge to recapture the presidency next year from the PAN that has managed to control it for two six year terms (Fox and Calderon). The outgoing governor from the state of Mexico Enrique Pena Nieto is the PRI candidate for president and is regarded as the odds on favorite.

The central bank meets on July 8th. It is firmly on hold. The easing of inflation forecasts by private economists for the fourth month (now 3.56% ) while reducing the growth forecast (4.31%) illustrates the lack of urgency the central bank must feel. Inflation is within its 2-4% forecast and growth is within its 4-5% forecast. The central bank may shave its growth forecast. We do not expect Mexico to hike rates until well into 2012.

Lastly, we note that Mexican peso is among the highest correlated with the US S&P 500. The 60-day rolling correlation (on percentage change) is just above 0.82, the highest since last September and the 30-day rolling correlation (percentage change) is just above 0.87, the highest in nearly a year.

In our recent work with correlation, we have noted the instability, but the peso is a notable exception. Since early 2010, the 30-day correlation between the peso and S&P 500 has rarely been below 0.60 and since March last year, the 60-day correlation has dipped below 0.70 briefly once.