Market Extra: Mexico’s presidential election: Investors need to know these key factors

Sunday’s presidential election will give Mexico a new leader, and with unorthodox candidate Andrés Manuel López Obrador leading in the polls, market participants are preparing for what his administration could mean for Mexican assets and already tense relations with the U.S.

“It would be a huge surprise if there was an upset and AMLO didn’t win,” said Graham Stock, emerging-market sovereign strategist at BlueBay Asset Management, calling the candidate by his acronymic nickname, and expecting calm trading in the Mexican peso USDMXN, +1.0432%  come Monday. The peso is a popular emerging market currency play, thanks to the Bank of Mexico’s high overnight interest rate of 7.75%.

Others are less optimistic, arguing that even if there’s little suspense around the outcome of the election, uncertainties surrounding the next government remain.

“I do think that the peso will sell off some on Monday,” said Christian Lawrence, senior FX strategist at Rabobank. “It might not go to 21.50 right away, but that level is in reach.” The dollar last bought 19.6694 pesos, down 0.3% on Friday. Since the start of the year, the peso is little changed but in negative territory, according to FactSet, while the iShares MSCI Mexico ETF EWW, +0.47%  was down 5.5%. The Mexican 10-year government bond LMBMKMX-10Y, -0.54%  last yielded 7.566%, close to a two-month-low on Friday. Yields and prices move in opposition to each other.

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Lopez Abrador, who has twice run for president and is the former mayor of Mexico City. This time, he’s running at the head of a party he founded. In many ways, he is seen as Mexico’s answer to the populist wave emerging around the world, albeit from a starkly left-leaning perspective. “Mexico hasn’t turned to the left since the 1980s,” Stock told MarketWatch. Now investors are worried what that could mean for Mexican assets, given that the country is a huge beneficiary of foreign direct investment.

Mexico, Canada and the U.S. have been in renegotiation talks regarding the North American Free Trade Agreement since August 2017, seemingly with no end in sight

Some believe that Lopez Obrador will be more practical as a leader than he is given credit for: “He ran a pretty orthodox Mexico City government during his time,” Stock said. “The danger is that Amlo is less predictable with issues like Nafta, although he said he would continue the line of negotiation that Mexico has gone down.”

“I find it hard to believe that he’ll just be moderate,” Lawrence said, who also said federal transfers shored up Mexico City’s finances during Lopez Obrador’s tenure.

“Unfortunately, Amlo appears set to reverse some of Mexico’s recent economic reforms, potentially setting back the country’s economy,” said Eric Lascelles, chief economist at RBC Global Asset Management.

If victorious, it will come down to what Lopez Obrador says in his would-be acceptance speech and then, during first few days in office, he wouldn’t assume until December, market participants said. He would likely get penalized by the markets if he started his term off with too aggressive a stance, Stock said.

Local Mexican businesses have already been big dollar DXY, -0.89%  buyers in the lead up to the election, Stock added, to protect themselves against such a slump in the peso.

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“Mexican corporates have been hedging out their positions, while foreign investors haven’t done that. That might mean that foreigners have a more sanguine view of a left-leaning government, or that they view the peso as cheap either way,” he said.

During the next president’s term, four out of five seats on Mexico’s central bank’s board of governors will come up for reappointment. This will play out over the next six years, with the first in 2019, Lawrence said.

“If Amlo goes the friends and family route with his appointments, investors might start worrying about Banxico’s independence,” he said of the central bank. “While this is no immediate concern, Mexico’s big share of foreign investors could be spooked by an inner circle appointment.”

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