MEXICAN PESO FORECAST:
- USD/MXN trades cautiously but the Federal Reserve decision on Wednesday could spark volatility
- Although no policy change is expected, the central bank could offer guidance on the next steps for normalization
- If the Fed argues for patience and fails to signal an imminent shift towards tapering, the U.S. dollar could retreat, benefiting the Mexican peso and EM FX in general
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Since late June, USD/MXN price action has been unexciting for traders who seek out volatile FX pairs. The accompanying daily chart shows that the pair has moved between horizontal resistance around 20.20 and short-term trendline support now passing through 19.85 over the past few weeks. From a technical standpoint, price would need to decisively break either of these levels to get a distinct short-term directional bias. With the Federal Reserve on tap on Wednesday, the risks of a move below support seems significant.
The Fed will announce its July monetary policy decision tomorrow at 14:00 New York time. Although no changes in either interest rates or assets purchases are expected, investors will be closely watching the event for clues as to what the institution might do next.
In an appearance before the House and Senate less than two weeks ago, FOMC Chairman Jerome Powell acknowledged that inflation has risen faster than expected, but at the same time recognized that the economy is still "a ways off" from where it needs to be to meet the criteria to start removing accommodation.
Given that not much has changed since the congressional testimony, Powell is likely to stick to the script and indicate that "further substantial progress" is required before withdrawing stimulus. If the central bank continues to shrug off the rise in inflation as temporary, argues for patience and fails to signal an imminent shift towards tapering, the U.S. dollar could retreat across the board, boosting emerging market currencies with an attractive “carry”. Under this scenario we could see a large drop in the USD/MXN exchange rate in the coming days as traders reassess the outlook for monetary policy in the United States.
Going back to technicals, if USD/MXN manages to break lower and pierces the 19.85 area on daily closing prices, sellers could drive the pair towards the 2021 low in the 19.55 region. A clear break here may see the next support at the 19.00 psychological mark.
Alternatively, if the Fed adopts a hawkish tone and triggers a broad-based dollar rally, traders should prepare for a sharp USD/MXN jump. Should price spike higher, the first key resistance comes at the 20.20 zone, where the 200-day moving average currently sits. If this level is overcome, buying momentum could propel USD/MXN towards the 20.75 region, where the June high converges with a long-term bearish trendline.
USD/MXN TECHNICAL CHART
Source: TradingView
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---Written by Diego Colman, DailyFX Market Strategist
