Federal Reserve Caution

The Federal Reserve is being careful due to mixed economic signals and supply uncertainties, as shown by April data. The Producer Price Index fell, and retail growth was minimal, indicating lower demand. Federal Reserve Chair Powell emphasized the uncertain economic environment. Mexico’s Banxico cut its interest rate by 50 basis points to 8.5%, hinting at more cuts ahead. Trade tensions threaten Mexico’s economy, which relies heavily on trade with the US. The US has imposed tariffs on some Mexican imports, leading Mexico’s Economy Minister to request an early review of USMCA agreements. In Q1, the US economy shrank by 0.3%, its first contraction since 2022, mainly due to a spike in imports before new tariffs. The USD/MXN currency pair is under pressure, trading near 19.50. It remains in a narrow range, and breaking below 19.11 could result in further declines for the peso.

Market Action Dynamics

The US dollar is gaining strength against the Mexican peso, and the reasons are becoming clearer. After Banxico lowered its benchmark interest rate to 8.5%, Mexican assets became less attractive, causing more selling. This drop in rates raised concerns about potential capital outflow. Ortíz’s choice at the central bank responds to increasing economic weakness both at home and abroad. Meanwhile, Powell’s comments suggest different outcomes. US inflation expectations have risen, particularly the one-year forecast at 7.3%. This increase makes it less likely the Fed will cut rates soon, changing how attractive the dollar appears. April data from the US shows mixed signals. Lower retail growth and falling producer prices indicate softening demand, but inflation pressures persist. Fed officials are acting cautiously due to this uncertainty. Recent minutes and comments confirm that any further rate changes will be carefully considered. Moreover, international trade issues are impacting price movements as the US has introduced new tariffs on certain goods from Mexico. Buenrostro promptly called for a quicker reassessment of USMCA terms to protect domestic production and ease ongoing tensions. In another key point, the US economy unexpectedly contracted by 0.3% in the first quarter — the first decline since 2022 — due to a surge in imports just before the tariffs took effect. This event coincided with a strengthened dollar, which can put downward pressure on Emerging Market currencies, including the peso. From a market perspective, the USD/MXN exchange rate remains in a tight range above 19.50. This type of consolidation is typical during conflicting signals. However, we are closely monitoring the 19.11 level because a drop below that could signal increased risks for the peso. Current trading prices are hovering near the higher end of the range, prompting trading desks to consider directional strategies based on new data and central bank updates. In the coming weeks, the US will release more key data: CPI, jobless claims, and revised GDP figures. Each update could strengthen the dollar, especially if inflation or employment figures remain strong. This situation puts more pressure on USD/MXN, as the relative monetary policy remains fluid. Rates traders must adjust their strategies based on new forward guidance, but with volatility being relatively low, opportunities could arise from calendar spreads or delta hedges. Expectation levels may shift as we approach the next Banxico meeting, particularly if Ortíz continues to ease policy based on domestic indicators like inflation and retail sales. We will keep a close watch for any comments from officials on either side that could clarify or confuse rate expectations. Tensions in US-Mexico relations also pose a risk for unexpected currency movements, especially if USMCA negotiations face challenges. Until there is more clarity, focusing on strategies that protect against downward risk rather than aggressive bets may be wise. Create your live VT Markets account and start trading now.

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