COP – COP underperformed peers as Banrep stayed on hold during their October meeting today in a 5-2 vote. The bank kept the reference rate flat at the current 13.25% level, in line with median market expectations per our latest expectations survey. The communiqué notes inflation has fallen but remains high and that expectations are still above the CB target. In addition, the staff notes an increase in expected GDP growth to 1.2% from 0.9%, though they note a “significant” adjustment in external accounts. MoF Bonilla spoke early-on, noting his disagreement with the board’s majority. Going forward, we expect Banrep to begin easing in December with a 50bp move. On the flow side, our trader notes that he saw outflows from offshore clients (mainly hedge funds) early in the session and outflows from corps throughout the day, adding that flows following the meeting were muted. 4060 and 4140 are the levels to watch.
Overall cautious message: Colombia’s central bank (BanRep) maintained its policy rate at 13.25%, in line with analysts’ consensus
and our forecast. The vote was split, with two board members backing a 25bp cut. The majority (five members) is worried about persistent
inflation, reflected in services and regulated prices, and the recent uptick in inflation expectations.
We found the tone of the policy statement and the press conference to be relatively hawkish, unchanged from September. The statement
reiterated the message that it would be imprudent to start a rate-cutting process whose sustainability faces relevant risks. Moreover,
BanRep highlighted external conditions as an additional source of uncertainty.
Lower odds of a rate cut in December: The main concern for the majority of the board is that potential new shocks to inflation (El Niño,
higher energy prices, the minimum wage hike) can affect inflation expectations. These concerns are valid, in our view, considering that
12-month expectations are at 5.7%, well above the 3% target and thus more sensitive to upside surprises. From this perspective, we
think the likelihood of a rate cut in December is diminishing, as the probability of a strong El Niño event is now 75-80%, according to the
Climate Prediction Center.
Likewise, the double-digit hike to the minimum wage in Q4 2023 seems a done deal. Such an increase could have an impact of more
than 1pp on inflation, mostly between January and May, according to a study published by BanRep (2022). This poses upside risks to
our long-held forecast of 5% inflation for end-2024, considering high indexation in Colombia (our Phillips curve estimate suggests a
coefficient of more than 70% for lagged inflation).
If anything, a smaller cut: A central bank that is permanently in data-dependence mode, coupled with the fact that two policymakers
already support a reduced policy rate, deters us from changing our December call now. But the bar to convince at least two more board
members to ease policy is high: At least one downside surprise on inflation (and no additional upside surprises) is needed, we think. In
our view, this cannot be ruled out in the short term as gasoline prices remained unchanged in October and the COP’s appreciation is
starting to reflect more clearly on durable goods.
However, despite anticipated temporary relief in October (we forecast 0.35% m/m), inflation could re-accelerate in November with another
increase in gasoline prices and risks for food and electricity prices stemming from El Niño. If anything, we now think a 25bp cut is more
likely than 50bp, our previous call and the current analysts’ consensus.
BNPP’s Strategy view: A cautious BanRep will make the market think about the possibility of the easing cycle starting later than current
expectations (the market is pricing in a 25bp cut in December), leading to further upward adjustment in the front end of the IBR curve. As
we approach December, we see risks skewed towards further reduction of the probability of a cut before year end. The combination of a
wary BanRep and some relief in the UST steepening trend bodes well for a flattening correction of the IBR curve. Likewise, BanRep
remaining in cautious mode suggests that the COP will stay an attractive carry trade vehicle for some additional time.
Dislike: Our models suggest that valuations continue to be more expensive than
peers, despite the recent correction. We do not think that this is warranted by
Colombia’s weaker fundamentals, but we wait for slightly better levels to engage
in shorts.
Receive 5-year IBR versus pay 5-year CAM: We recommend 5-year IBR
receivers versus 5-year CAM payers as a play on divergent valuations (relative
to neutral rate levels and to US rates) and as we think that BanRep is likely to
start its easing cycle before the end of the year. We note that BanRep is the
only regional central bank with a dual mandate and, although CPI expectations
remain unanchored (end-2024 roughly 230bp above target), recent economic
data have started to surprise to the downside more meaningfully.
Colombia has traded sideways versus BBs in the past three months, thus staying relatively cheap by pricing a bit more than three
downgrades. The local elections confirmed the challenges the government is facing in implementing its agenda amid low popularity,
meaning the market assumption will be for now significant reforms passing. Higher oil prices also help. Given still cheap valuations, there is
thus room for some relative outperformance, yet weak fiscals into 2024 and beyond prevent us moving to a like stance.