Mexican Peso Outlook: U.S. inflation data could lift yields and the USD/MXN

MEXICAN PESO Key Points:

Mexican Peso Outlook: U.S. inflation data could lift yields and the USD/MXN
  • USD/MXN continues to edge higher, although at a very slow pace
  • In the short term, the dollar has a more positive outlook due to the rebound in U.S. Treasury yields
  • Traders will be closely monitoring consumer price data from the United States on Wednesday. Inflation could rise more than anticipated, which could weigh on the Mexican peso in the short-term.

USD/MXN has continued to trend higher this week after bouncing off support near 19.80 at the start of the month. The key driver of U.S. currency strength during this period was the rebound in treasury yields. The rebound in treasury yields has been a key catalyst for the strength of the dollar. In the past six days, for example, the US 10-year yield has risen from 1.12% to 1.34%, an increase of 22 bps in such a short time.

If inflationary pressures in the United States continue to rise, Treasury yields could climb further and impact EMFX. The latest inflation report from the Bureau of Labor Statistics will give traders a better idea of consumer price trends.

According to forecasts, the July headline CPI will fall to 5.3% y/o-y, down from 5.4% in June. The core indicator, however, is projected to drop to 4.3% from 4.5% in the previous month. If data ends up surprising to the upside, long term yields could gain ground as the market brings forward Fed tightening expectations (tapering) at a time of strengthening labor market. This scenario could see the greenback rise across the board and propel USD/MXN higher in near future.

The interest rate decision by Banxico on Thursday will be next up for traders. The central bank is seen raising borrowing costs by 25 bps to 4.50%, following a hike of the same magnitude at the June meeting. The move will be fully embedded in the curve so traders will pay closer attention to forward-guidance in order to determine if policymakers intend to tighten monetary policy to prevent inflation. However, any hawkish message in the medium-term will be beneficial for the Mexican peso. Over a shorter-term horizon, however, yield dynamics in the United States will guide price action and have a stronger impact on emerging market currencies

USD/MXN Technical Analysis

Technically, USD/MXN will continue to rise, so the 20.20/20.25 area is a good place to look for resistance. Buyers would need to push the price higher than this barrier in order to build momentum. The pair could reclaim the June high of 20.75 if that happens. The downside is that bears could regain control and push USD/MXN lower. A key support level at 19.80 would be helpful. There is potential for price to break this floor and move towards the June low at 19.60.

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---Written and edited by Diego Colman (DailyFX Market Strategist).

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