Mexican Peso recovers against USD after inflation data cools in May

• The Mexican Peso recovers against the US Dollar after the release of lower-than-expected US CPI data for May. 
• The Peso had weakened to new lows as investors weighed the impact of the new government reforms on trade and the economy. 
• USD/MXN breaks above key October 2023 highs, bringing the long-term trend into confusion. 

The Mexican Peso (MXN) recovers some of its early losses against the US Dollar (USD) on Wednesday following the release of lower-than-expected inflation data from the US increased the probability the Federal Reserve (Fed) might lower interest rates sooner than had previously been expected. Lower interest rates tend to depreciate a currency as they attract lower capital inflows. As a result of the data USD/MXN fell almost half a percent after the release. 

At the time of writing a single US Dollar (USD) will now buy you 18.82 Mexican Pesos (compared to circa 17.00 just prior to the election). EUR/MXN, meanwhile, is trading at 20.37 and GBP/MXN at 24.15.

Mexican Peso bounces back against weaker USD

The Mexican Peso bounced back against a weakening US Dollar (USD) on Wednesday after the release of US Consumer Price Index (CPI) data showed both headline and core inflation cooled in May. 

Headline inflation flatlined on a month-over-month basis and rose 3.3% year-over-year. This was lower than the 0.1% and 3.4% rises predicted by economists and the 0.3% and 3.4% of the previous month, respectively.

Core CPI rose 0.2% MoM and 3.4% YoY which was also below estimates of 0.3% and 3.5%, and the previous month's 0.3% and 3.6% respectively, according to data from the US Bureau of Labor Statistics. 

The data increases the chances the Federal Reserve (Fed) may move as soon as September to reduce interest rates. The probability of a rate cut by September rose to almost 70% after the release from 53% before, according to the CME FedWatch tool, which calculates odds based on the price of 30-day Interest Rate Futures. 

Mexican Peso weakens after Sheinbaum launches reform agenda

The Mexican Peso extended its post-June 2 election slump earlier on Wednesday as investors fretted about constitutional reforms proposed by the left-wing administration of President-elect Dr. Claudia Sheinbaum. 

Critics argue the reforms – which encompass minimum wages, state-sector pensions and the judiciary, amongst other things – could be negative for the economy and in some cases anti-democratic. 

On Monday Sheinbaum gave the green light to a raft of reforms proposed by her predecessor, and fellow Morena party representative, President Andrés Manuel López Obrador (AMLO). 

During a press conference at the Palacio Nacional on Monday, Sheinbaum said she would be putting forward as a priority the discussion of reforms to the judiciary, the re-election of officials to public posts, and teachers’ pensions. Markets roiled in the aftermath, both from the uncertainty of the outcomes of these “discussions” and their effect on the economy, according to the Financial Times (FT).  

Sheinbaum said that after she elects her cabinet next week the “constitutional reform of the judiciary would be among the first reforms to be approved.” When asked if these reforms would weaken the Mexican Peso, Sheinbaum said she did not believe they would impact financial markets. 

Markets bite back

However, foreign exchange traders had other ideas, selling the Peso in droves after Sheinbaum’s comments. 

“It wasn’t clear if the discussions would lead to changes to the plans, and her assurances did little to calm foreign exchange traders. The Peso, one of the most liquid emerging market currencies, weakened almost 2%,” said Christine Murray, Mexico and Central America Correspondent for the FT.  

The new reforms to the judiciary will mean judges are elected by popular vote, not appointed as is currently the case. The proposed policy encompasses the heads of bar associations, law schools, and lower court judges. Judges will also have their salaries and terms capped. The reforms stem from criticisms of the current system which it is argued enables corruption and cronyism. 

Critics, however, argue the reforms will lead to an erosion of the checks and balances of the executive's power, according to Bloomberg News. AMLO himself, for example, has been waging a war against the country’s top court after it obstructed his efforts to push through reforms during his presidency.

Sheinbaum seeks to hardwire the reforms into the Mexican constitution, thereby enshrining them in law “forever”, yet this requires a supermajority in both houses (over two-thirds of the seats). Unlike AMLO, Sheinbaum’s coalition, Sigamos Haciendo Historia (SHH), now has a supermajority in the Congress and is only two seats short in the Senate.

In her press conference, Sheinbaum also promised to build the “second floor” of López Obrador’s project to raise minimum wages, increase social programs and build mega-infrastructure projects. However, the banning of independent sector regulators would be in the second wave. 

Although some analysts, such as those at JP Morgan, have said the Peso’s depreciation due to the election is overdone, other experts say some of the reforms violate Mexico’s trade agreement with the US and Canada, raising the prospect of a trade war which would undoubtedly harm the Mexican currency.

Sheinbaum also stated at her press conference that she would be meeting a delegation sent by US President Joe Biden on Wednesday.  

Investors fear AMLO’s last month

The Mexican Peso has also weakened on investors’ concerns at the possibility that AMLO himself may use the SHH supermajority to push through the reforms before he retires on October 1. 

“Congress is expected to convene on September 1, potentially giving López Obrador a one-month window to push through reforms before retiring,” said a report from AFP News on Barron’s. 

Technical Analysis: USD/MXN breaks above key October 2023 high

USD/MXN pulls back after peaking at just shy of 19.00. The pair remains in a short-term uptrend after decisively breaking above key resistance at 18.49 (October 2023 high). 

USD/MXN Daily Chart 

Given “the trend is your friend,” the odds favor a continuation even higher in the short-term, with the next target potentially situated at 19.22 (March 2023 high).

The Relative Strength Index (RSI) has exited the overbought zone suggesting traders should close their long positions. It also increases the possibility of a pullback developing, although the established uptrend is likely to eventually resume.

The direction of the long-term trend is in doubt after the break above the October 2023 high. Previous to that, it was down.