Mexican Peso Outlook: USD/MXN Cascades Lower, but Omicron Poses Upside Risks

(MENAFN- DailyFX) MEXICAN PESO OUTLOOK:

• after its recent upward explosion that took the price to a yearly high of ~22.15 last week
• Pandemic fears, however, may still bias the U.S. dollar higher in the near-term
• For the Mexican peso to recover meaningfully, investors will need clarity on the omicron variant and news on the highly mutated COVID-19 strain must be positive

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The Mexican peso has been on a roller coaster ride in recent weeks amid rising U.S. Treasury yields, contagion from theTurkish Lira crisis , and concerns over the COVID-19 omicron variant. Against this backdrop, the USD /MXN has exploded higher since mid-November, rising from ~20.50 to an annual high of ~22.15 last Friday, before correcting lower towards 21.28 at the time of writing.

From a fundamental point of view, the excessive MXN weakness seems overstretched, but it is understandable. When uncertainty increases, traders tend to bail on EMFX quickly to head for the exits in search of safe havens. While USD/MXN may move lower and return below the 21.00 level when the waters calm down and cooler heads prevail, it is too early to predict when that might happen, especially as the pair's implied volatility remains high amid pandemic angst and fragile sentiment.

For the Mexican peso to recover meaningfully, investors will need clarity on the omicron variant that is appearing in many parts of the world, but for the most part in Africa. At this time, little is known about the severity and transmissibility of the heavily mutated virus strain, but we should find out more in coming weeks after scientists gather more data and complete their epidemiological studies.

If health authorities conclude that omicron causes only mild disease and existing vaccines remain effective, we could see a broad-based EMFX relief rally, but gains wouldn't be extraordinary as the Fed monetary policy pivot will ensure the U.S. dollar remains attractive, especially against low yielders. The opposite is also true; if omicron proves to be more deadly than other strains and can defeat vaccines, EMFX could sell off aggressively heading into 2022.

Pandemic concerns aside for a moment, traders should also focus on domestic politics (Mexico) to understand how the Mexican peso may perform in the medium term. That said, President Lopez Obrador recently withdrew the appointment of Finance Minister Arturo Herrera to lead Banxico and named Victoria Rodriguez as its next head. Rodriguez is a little-known, left-leaning economist who many believe will be more loyal to the president and less independent in carrying out the bank's mandate. As such, her confirmation may usher in an era lower interest rates and more entrenched inflation, though it is too soon to pass judgement. In any case, a dovish monetary policy outlook in the face of elevated price pressures can be lethal for the Mexican peso - look no further than Turkey for reference.

USD/MXN has started to correct lower after reaching a yearly high of ~22.15 last week, but for bearish momentum to accelerate meaningfully, we would need to see a sustained move below support at 21.11. If sellers manage to invalidate this floor, the next level of interest appears at 20.95, followed by 20.45 (see daily chart).

On the flip side, if buyers regain control of the market and USD/MXN pivots higher, technical resistance stands at 21.60, the March swing high. If the pair climbs above this barrier, price could be on its way to retest the 22.15 area in the near-term.

USD/MXN chart prepared in TradingView

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---Written by Diego Colman, Contributor

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