What Mexico’s elections could mean for markets

Status quo seems highly unlikely to change...

Opinion polls indicate that Claudia Sheinbaum, the governing party’s (MORENA) candidate is poised to become Mexico’s next president in the June 2 general election. Sheinbaum is leading by at least 20 points in most polls¹, and as a result, this isn’t a particularly uncertain election. Moreover, in the hypothetical scenario of a shockingly surprising election win by opposition Xóchitl Gálvez, we expect the result to be market positive given the opposition’s pro-business agenda. Markets seem thus understandably quite relaxed about these elections.

…which provides some comfort to markets, but economic challenges abound

In terms of economic growth, Mexico’s performance has been dismal during the Lopez Obrador’s presidency. Cumulative growth since President Andrés Manuel Lopez Obrador (typically referred to as “AMLO”) took office in December 2018 has been only 4.2 percent, according to Mexico’s monthly economic activity indicator - that’s just 0.8 percent per year. Part of this is clearly due to the pandemic, but put in relative terms, it’s the second-worst performance in Latin America, only beaten by crisis-stricken Argentina at -0.4 percent. In contrast, the most successful countries in the region were Costa Rica and Dominican Republic, which expanded by 19.7 percent and 18 percent respectively.

Poor growth is not something new for Mexico, and it was the case before AMLO took office. Indeed, markets liked that AMLO’s government maintained fiscal discipline, at least during his first five years in office, when he maintained an average fiscal deficit of 3.8 percent of GDP despite the pandemic. But the government has been ramping up spending ahead of the elections and the IMF expects a fiscal deficit of 5.9 percent this year. It would be the largest fiscal deficit on record for the country.  The expectation is that the next government will quickly reverse this and return to their usually responsible fiscal policies in 2025. Sheinbaum’s choice of economic advisors also suggest that this will be the case, but it is a risk markets should watch for in 2025.

A potential second Trump president could bring the stability of Mexican asset prices to an end

Trump’s first presidency brought a lot of volatility to Mexican assets due to the renegotiation of the North America Free Trade Agreement into the USMCA and the multiple tariff threats the former president issued. With Trump leading in the US Presidential campaign, there’s a possibility that the recent stability of Mexican asset prices would come to an end. Trump’s unpredictability makes the situation highly uncertain. US imports from China have declined due to trade tariffs, but Mexican imports from China have increased, leading some analysts to argue that China is evading tariffs via Mexico. These trade flows are under scrutiny and it is not clear whether the situation will be resolved in an amicable way or through Trump’s well-known hard-ball tactics. The United States-Mexico-Canada Agreement (USMCA) is up for review in July 2026, a date that members can use to opt out of the accord. If Trump were to become president, it wouldn’t be surprising to see him leverage this review.

Other issues connected to US-Mexico relations like security, drug trafficking, and migration will surely come to the fore in a potential Trump second presidency. These problems are complex and beyond the scope of this article, but it’s worth mentioning that security in the country has been deteriorating, which has been hurting tourism and other investments. Drug trafficking, the fentanyl epidemic in the US, and illegal immigration are key campaign topics ahead of the November US election. Both the US and Mexico have much to gain from cooperation on these issues, but markets should be aware that they could also be sources of asset price volatility in the near-term.

Pemex’s debt situation remains unresolved, but we believe  there’s potential upside if environmental issues are tackled

The highly indebted company’s refinancing costs are substantially higher than the sovereigns’ despite the large explicit financial support that the AMLO administration has been providing. Sheinbaum’s team has signaled that they will continue to help Pemex refinance its debt maturities, which has been well received by the markets. She’s an environmental scientist by training and recently mentioned that she wants Pemex to invest into renewable energy. It would be a welcome upside scenario for investors if the next administration improves the company’s poor environmental track-record. And it would be a cost-efficient way of reducing the company’s borrowing costs, given that the well-known environmental controversies of the oil company prevent investors from getting involved . Besides ESG-related improvements, the next government should take a look at how South Africa’s government succeeded in lowering borrowing costs for Eskom by guaranteeing some of their new bond issues. Such a strategy would not require taking over all of Pemex debt and need not be too costly for the sovereign. In fact, we expect it to result in savings for the country in the long term.

Local-currency debt remains attractive, but we’re cautious on the peso

Focusing on Mexico’s assets, we think that local-currency debt remains quite attractive given the very high real yields offered by local-currency bonds. Banxico (Mexico’s central bank) remains one of the most hawkish in Emerging Markets, which has provided a strong support for the currency. Yet given reasonably favorable inflation developments, the central bank already started cutting rates in March and it is likely to continue cutting rates at a faster pace than the Fed. In our view, this should be supportive for duration bets on local-currency bonds. However, investors should be aware that the Mexican peso is not cheap. In fact, it is on our bucket of what we consider relatively expensive EM currencies. In this context, if a second Trump presidency materializes, we could see a return of the high MXN volatility days experienced during the first Trump presidency. On the hard-currency side, we think that Pemex debt continues to offer good value and see potential upside if the new administration actively tackles the company’s environmental problems, and especially if they come up with a comprehensive refinancing plan instead of continuing with the piecemeal approach of the AMLO administration.