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Goldman Sachs on LatAm FX: COP May Have Most Room To Run

LATAM FX
  • In a strong week for the Dollar, LatAm FX was among the hardest hit, given the sensitivities to rising US yields, as well as to volatility in both risk assets and commodity prices.
  • Still, despite this week’s wobble, LatAm currencies remain among the clear outperformers in FX markets year-to-date, driven by both the flight of FX investors to the high carry and commodity exposure, as well as to a compression in domestic risk premia.
  • Across a wide range of measures within a GS comparison framework, COP and CLP now scan as featuring the most ‘room to run’ further in LatAm FX; of the two, GS prefer COP, in part because of the potential for sustained policy rate hikes in Colombia to keep FX carry elevated.
  • BRL features the region’s highest FX carry, moderate fixed income positioning and broad-based commodity exposure, which can generate further tactical USD/BRL downside, but eroding risk-reward after a strong run, and cooling domestic growth, leave GS cautious over the medium term.
  • MXN features relatively little domestic risk premium compared with its LatAm FX peers; we think the way forward for MXN will depend as much on global as local factors.
  • LatAm risk premia can compress further in 2022Q2, particularly if the global environment is supportive, but last week’s price action is a reminder of risks: while LatAm FX has been an unusual safe haven YTD, LatAm currencies could begin to look considerably less-safe if investors begin to re-focus on domestic growth, more than on carry or commodities, with LatAm rates moving higher up in the local asset rankings.
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