The peso is stumbling as negotiations to remake the North American Free Trade Agreement become more contentious, raising the risk of a bad outcome for Mexico, including a possible end to the pact.
The peso was trading in Mexico City around 18.7550 to the U.S. dollar early Wednesday, stronger than the five-month low hit Tuesday but down 5% over the past three weeks.
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After trading around 17.80 pesos per dollar for much of the summer, the peso's losses accelerated ahead of the fourth round of Nafta talks that began Wednesday in Washington between the U.S., Mexico and Canada.
On top of that, Mexico's 2018 elections are starting to weigh on the currency as some see a potential trade row with the U.S. helping leftist presidential hopeful Andrés Manuel López Obrador.
"After a long period of complacency, Mexican assets have finally started to react to the tail risks from the Nafta renegotiation and next year's presidential election," Nomura strategist Benito Berber said in a report. "Despite the peso's recent depreciation, the currency still does not appear to incorporate fully the necessary risk premium from both events."
Business groups see several U.S. proposals that could result in deadlock, including a sunset clause that would require the trade pact to be renewed in five years, minimum U.S. content in cars, and major changes in dispute-resolution mechanisms.
"There are several poison-pill proposals still on the table that could doom the entire deal," U.S. Chamber of Commerce President Thomas J. Donohue told a group of business leaders in Mexico City this week. "We've reached a critical moment. And the chamber has had no choice but ring the alarm bells."
The peso's test of 18.85 to the dollar Tuesday came after U.S. President Donald Trump again hinted at pulling out of Nafta. "I happen to think that Nafta will have to be terminated if we're going to make it good. Otherwise, I believe you can't negotiate a good deal," he said in an interview with Forbes.
Others think a new agreement can still be reached.
"Certainly Nafta is not looking as rosy, although it's hard to tell," said Jorge Mariscal, emerging markets chief investment officer at UBS Wealth Management. "Trump is legendary for having a bullying strategy when he negotiates.
"It's possible that we get bad headlines, but get a good outcome at the end, so I would fade a lot of this noise and probably use this opportunity to build positions in Mexican pesos, which are pretty cheap, " he added.
U.S. Trade Representative Robert Lighthizer sounded upbeat in kicking off Wedneday's talks. "Thus far, we have made good progress, and I look forward to several days of hard work," he said.
Still, scenarios in which the pact is scrapped are being discussed more frequently.
Mexican Economy Minister Ildefonso Guajardo said that while a breakdown in talks wouldn't necessarily hurt Mexico's long-term prospects, markets might overreact in the near term.
"Undoubtedly, there's life after Nafta," he told Mexico's Radio Fórmula in an interview. "It's demonstrated in the hard numbers that this is manageable, and that gives us strength in the negotiation."
Mr. Mariscal of UBS and others cite the approach of Mexico's July 1 elections playing a role in the exchange market, especially if Mr. López Obrador maintains his current lead in polls as campaigning kicks off next year. Mr. López Obrador has expressed opposition to many of the recent economic overhauls, especially the opening of the oil-and-gas industry to foreign and private capital.
"The combination of a bad outcome on Nafta and rising nationalistic feelings in Mexico could potentially help López Obrador," Mr. Mariscal said. "The market fears López Obrador as the next president."
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(END) Dow Jones Newswires
October 11, 2017 14:15 ET (18:15 GMT)