January 20, 2020 / 12:01 PM / 3 months ago

Higher-yielding Mexico set to lure fresh capital inflows in 2020

MEXICO CITY, Jan 20 (Reuters) - Fueled by high interest rates, Mexico is in 2020 primed to build on recently resurgent capital inflows following a year long overshadowed by uncertainty over a new North American trade deal and U.S.-Chinese economic tensions.

Appetite for sovereign debt is being largely sustained by the high interest rate spread of up to 575 basis points between Mexico and the United States, which allows investors to enter via so-called “carry trades”, analysts and fund managers said.

Mexico’s central bank interest rate is 7.25%, while the U.S. Federal Reserve target rate range of 1.5% to 1.75%.

Analysts also cited Mexico’s stable political environment compared with other emerging markets as positive factors, so far offsetting the downside of a stagnant economy and ratings agency scrutiny of struggling state oil company Pemex’s hefty debts.

“We look quite attractive, and that has supported the exchange rate, more inflows into the Mexican debt market,” said Juan Manuel Lozada, an analyst at Citibanamex.

Since 2017, investors have benefited from the “carry trade”, in which they borrow in the currency of a country with low rates, such as the United States and many European countries, to buy bonds of a high-yield country like Mexico.

Adding to that, investors see Mexico as “comfortable” compared with Latin American countries that weathered social and political tensions last year, said Roger Horn, senior debt strategist at SMBC Nikko Securities America.

“There’s no red lights really flashing from Mexico right now,” he said. “Investors did very well last year. Most people had 10% or 12%, whether they were in sovereigns or corporates.”

At the beginning of 2019, capital flows benefited from a weak base of comparison in 2018. However, they slowed in February as ratings agencies issued warnings on Mexico's debt. Capital flight began in July and continued until December. (Graphic: tmsnrt.rs/38lvkky)

Capital flows recovered in the second half of December, driven by advances in the U.S. ratification of the United States-Mexico-Canada Agreement trade deal, as well as easing trade tensions between Washington and Beijing.

Foreign investors held 2.15 trillion pesos ($115 billion) in Mexican debt at the end of last year, equating to a net arrival for 2019 of 18.5 billion pesos, official data show.

Net capital inflows last year were the third lowest since 2004 - after 2016 and 2017, when capital flight was sparked by aggressive rhetoric towards Mexico by Donald Trump before and after he captured the U.S. presidency.

Reporting by Abraham Gonzalez; Editing by Lisa Shumaker

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