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Bearish USD/MXN on Positive Oil Correlation To Hedge Possible Oil Turning

Bearish USD/MXN on Positive Oil Correlation To Hedge Possible Oil Turning

2017-03-29 21:00:00
Tyler Yell, CMT, Currency Strategist

Point to Establish Long Exposure: At Market ( 1.6460)

Spot: 18.6973

Target 1:18.3003 (November 8 Close)

Target 2:18.0506 (August 16 Close)

Invalidation Level:19.2371 (March 22 High / March 15 Close)

If you are looking for other trading ideas, check out our Trading Guides

Fundamental & Technical Focus:

Two key themes turn our focus toward USD/MXN. USD has been quietly losing to high-yielding currencies after the Federal Reserve failed to raise their Dot Plot. The market seems to be settling back into a Goldilocks zone of no significant event risk and stable views from Central Banks that could inflate the hunt for yield that benefits Emerging Markets.

On example of this yield-hunt is in South Africa, despite political instability. On Wednesday, reports showed the large-scale institutional buying of South African bonds where demand outstripped supply 6-1 per Bloomberg, which seems to argue the FX effect (USD/ZAR) higher may not hold. On Tuesday, net inflows reached 4.9 billion ZAR ($375 million), the most since June, according to JSE Ltd. Data.

Similarly, options traders appear to be betting the impact of the political turmoil will blow over as one-week implied volatility spiked to a four-month high this week while the rise in 12-month contracts was subdued. The options market reaction appropriate and encouraging to the view the high-yielders could continue to perform.

Why USD/MXN? MXN seem to be benefitting not only from its high-yield status, which Banxico has supported by raising rates lately but via a correlation to Oil. If Oil can turn around, which would likely happen on the back of a weaker USD, we could see a further breakdown in USD/MXN that would benefit this trade.

This trade could flop if a risk off event takes money out of EM and money seeking high-yield begins to seek safety or if the USD reverses course and begins to appreciate. However, absent a reversal in these two trends, I anticipate further MXN appreciation against USD.

The chart below shows the strong appreciation of the MXN with the price of Oil overlaid in Orange. The technical indicator, Ichimoku is showing a bearish breakout per the lagging line that I anticipate preceeding more downside toward the November 8, and August 16 close.

Favorable Correlation Could Help MXN Long Trade:

Bearish USD/MXN on Positive Oil Correlation To Hedge Possible Oil Turning

Created by Tyler Yell, CMT


Happy Trading!

Tyler Yell, CMT

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.