Shocking! Mexico Peso Sinks as Central Bank Makes Daring Move – Investors in Turmoil

Mexico Peso Sinks

The Mexico peso experienced a decline as the country’s central bank announced its intention to scale back a hedge program aimed at managing market fluctuations. This move serves as a signal to traders that the impressive rally which propelled the peso to the position of the world’s top-performing currency might have been taken to an excessive extent.

The initiative, established in 2017 coinciding with Donald Trump’s assumption of office in the US, and expanded in 2020 amidst the pandemic, is set to undergo a gradual reduction beginning in September. This decision was conveyed through a statement on Thursday by Mexico’s central bank, commonly referred to as Banxico. Notably, Banxico holds approximately $7.5 billion worth of active positions in these specific instruments.

According to the statement from Banxico, the operational environment within the exchange market has now regained a satisfactory balance of liquidity and depth. The central bank mentioned, “Credit institutions and other economic entities are now equipped with the necessary conditions to manage their exchange rate-associated risks directly within the exchange market.”

Benito Berber, the Chief Economist for the Americas at Natixis, interpreted this change as “a distinct indication that the peso could be exhibiting excessive strength.”

Starting from next month, the hedges will undergo a rollover process once, encompassing 50% of their present value. Meanwhile, for operations spanning six months, the duration will be condensed to one month, and the renewal will exclusively apply to half of the initial amount. Operations spanning nine and twelve months will be allowed to naturally conclude without renewal.

Felipe Hernandez, who specializes in covering Mexico for Bloomberg Economics, observed that the decision to decrease the hedge program is quite logical in light of the peso’s current appreciation and Banxico’s assertive monetary policy marked by historically high interest rates.

“Through the reduction of the existing outstanding forwards, policymakers are reclaiming a certain degree of flexibility in the exchange rate,” he explained. “This action also creates an opportunity for potential intervention in the future, should the need arise.” He further added, “Executing this strategy while the peso is exhibiting strength aligns with a logical approach.”

The announcement regarding the reduction of the program had an immediate impact on the Mexican peso, causing it to experience a decline. Traders reacted to this news, leading to a drop of over 1.7%, which stood out as the most significant loss among emerging markets. Despite this decline, it’s noteworthy that the currency was en route to recording its most challenging day since March. Nonetheless, it remains a standout performer in the major currency arena this year, showing an impressive surge of nearly 15%.

Clyde Wardle, an FX strategist at HSBC Securities USA Inc., remarked, “Essentially, they are capitalizing on the strength of the MXN as an opportune moment to unwind these existing forward positions.”

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