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In Brazil, reform optimism has not waned and there is increasing risk that Temer may not complete his term. USDBRL should move higher as reform optimism wanes. Economic activity should recover and the rate easing cycle is probably over.
Commodity prices that are important to Brazil that have been slumping massively in recent times – sugar (-25%), iron ore (-30%), soybean (-10%), and oil (-14%) - have plunged in last few months, so terms of trade are working against the currency at the moment.
But the resilience of the BRL reflects the broader appetite for carry and local factors. The market is largely pricing in a positive pension reform story and the risks are for weaker FX and higher mid-to-long tenor rates in the case of significant dilution or delay.
We prefer to stay on the sidelines in USDBRL and see if the upper end of the range (3.20) holds; a break above could see crowded carry positions squeezed.
Sell 1M vs. buy 3M USDBRL ATM in vega neutral notionals.
Buy USDBRL 1Y ATM vs sell 18M 25D strangle, 1:2 vega.
Buy 2M USDBRL vs. sell 2M USDCLP in 100:120 vega ratios.
CLP should catch up with rest of EM currencies and move to the strong side of the one year range (640-680). Selling USDCLP 3m NDF at 672.85 is recommended with target at 640 (5.1%) and stop above the top end of the range at 684 (-1.65%). The trading horizon is 3 month and it offers a positive carry of 13bp/month.
MXN has rallied to the strongest levels since the US elections. US administration's soft stance on NAFTA, cheapness versus oil, and yield-seeking behavior remains supportive. Directionally, we advocate credit call spreads (17.2384/18.5700).
