March 9, 2020 / 8:11 PM / in 24 days

Mexican peso squeezed by speculators with derivative losses

MEXICO CITY, March 9 (Reuters) - The Mexican peso’s plunge to a historic low on Monday was exacerbated by speculators selling the currency to cover losses from peso investments made through derivatives, analysts said.

The peso plummeted 14% on Monday, as measured by the interbank exchange rate, to an all-time low of 22.929 per dollar. Later it pared losses to trade about 5.5% down against the dollar.

The wild swings follow relative stability over the past year for the peso, which in February hit an 18-month high against the dollar. It was one of the best performing emerging market currencies in 2020 until mid-February.

“There is a massive squeeze in a number of currencies, and the situation in peso is exacerbated by illiquidity and positioning, which is to say it’s a crowded trade still,” said Sacha Tihanyi, deputy director of emerging market strategy at TD Securities.

The Mexican peso is Latin America’s most liquid currency, which has made it attractive to investors but also sensitive to market chaos as foreigners can easily withdraw their money.

The number of so-called “long” peso contracts betting that the currency would strengthen, including futures and options, on Jan. 28 reached an all-time high of 170,000, equating to about $5 billion, according to Refinitiv data.

This was in part due to expectations of an elevated spread between Mexican and U.S. interest rates that has driven the popular “carry trade” investment strategy, analysts said.

Under this strategy, investors borrow money in the currency of a country with low interest rates, such as the United States and some European countries, to buy bonds of a high-yield country like Mexico.

The Mexican central bank’s benchmark rate is 7%, while the U.S. Federal Reserve’s is 1% to 1.25%.

Many foreign investors scrambled to cover derivative losses by selling the peso after it began to weaken against the dollar following the spread of the coronavirus.

This weekend, the peso suffered another major blow from the collapse in global oil prices, which threatens Mexican oil revenues. In the past two weeks, the peso has been one of the world’s worst performing currencies against the dollar.

“It is too early to declare that the massive sale of risky assets has ended,” said Jorge Gordillo, director of analysis from CI Banco. (Reporting by Abraham Gonzalez; Writing by Drazen Jorgic; Editing by Richard Chang)

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