IFR LatAm Investor Series: Mexico Capital Markets Roundtable

Scotiabank was proud to sponsor IFR’s roundtable discussion on Mexico’s Capital Markets.

Mexico has advanced its sovereign bond strategy, focusing on diversification and ESG criteria. Maria del Carmen Bonilla from Mexico’s Ministry of Finance highlights efforts in multi-currency issuance and innovative debt instruments. Scotiabank’s Juan Fullaondo and José Jorge Rivero emphasize Mexico’s appeal to investors and the bank’s commitment to the region.

Mexican Sovereign Bond Issuance

In recent years, Mexico has made significant strides in its sovereign bond issuance strategy, reflecting a robust approach to managing its external debt portfolio. Maria del Carmen Bonilla, Head of Public Credit and International Affairs at the Mexican Ministry of Finance, highlighted the government’s commitment to maintaining a balanced and diversified funding strategy. This strategy is crucial for ensuring liquidity and stability in the face of global economic fluctuations.

There has been a concerted effort to rebalance the portfolio of external debt. The focus has been on keeping benchmarks liquid in major markets while also expanding the issuance of bonds linked to environmental, social, and governance (ESG) criteria. This dual approach not only enhances Mexico’s appeal to international investors but also aligns with global trends towards sustainable finance.

In 2023, Mexico successfully issued bonds in various currencies, including dollars, euros, and yen, showcasing its ability to tap into diverse markets. This multi-currency strategy is designed to attract a broader investor base and mitigate risks associated with currency fluctuations. Bonilla emphasized the importance of diversifying the investor base, which is essential for preserving the performance of the country’s debt instruments.

The Mexican government has been proactive in refinancing existing debt and exploring new funding strategies. The Ministry of Finance has been working on strengthening the tools in switch tender offers. Among the innovations has been providing investors with the opportunity to switch to Sustainable Development Goal bonds in these operations.

It has also introduced innovative domestic debt instruments such as Bondes F and Bondes G. Bondes F are a highly liquid floating rate note. The Bondes G, which is aligned with ESG criteria, has gained traction, with an outstanding issuance of approximately MXN$96 billion (around US$5 billion), reflecting the increasing interest in sustainable investment options.

Looking ahead, the Mexican government is committed to maintaining a strong presence in international markets while using external financing as complementary to domestic financing.  The government plans to keep the external part of the debt portfolio contained and accompany it with a hedging strategy.

As the global economic landscape continues to evolve, Mexico’s sovereign bond issuance strategy will remain a critical component of its financial stability. The government’s focus on ESG criteria, diversification, and innovative financial instruments positions it well to attract both domestic and international investors. With a solid foundation in place, Mexico is poised to navigate the complexities of the global bond market while ensuring sustainable economic growth.

Risk Management Strategy

The Mexican government has placed a strong emphasis on risk management as part of its comprehensive debt management strategy, recognizing the importance of maintaining fiscal stability in a volatile global environment. Maria del Carmen Bonilla outlined the key components of this strategy, which aims to mitigate risks associated with both domestic and international economic fluctuations.

A central aspect of the government’s risk management approach is the containment of external exposure and the diversification of its debt portfolio. Currently, approximately 16% of the federal government’s total debt is sourced from external financing, a reduction from 20% in previous years. This strategic shift is designed to minimize exposure to foreign currency risks while ensuring that the government can effectively manage its liabilities. Bonilla emphasized that while there is no specific target for external debt, the goal is to keep this share contained and manageable.

The government has also implemented a hedging strategy that includes currency diversification. This initiative is particularly crucial considering recent global economic uncertainties, which have heightened the risks associated with foreign exchange fluctuations. By diversifying its currency exposure, the government aims to stabilize its financial position and reduce the impact of potential shocks on its balance sheet. Bonilla noted that this strategy has proven successful, allowing the government to cap interest rate expenses and maintain a more predictable financial environment.

In addition to currency diversification, the government is focused on enhancing the overall maturity profile of its debt. The average maturity of external bonds is around 19 years, compared to approximately eight years for domestic market instruments. This longer maturity profile provides a cushion against short-term market volatility and allows for more strategic planning in terms of debt servicing. By balancing the maturity of its debt, the government can better navigate economic cycles and manage refinancing risks.

The government is also keenly aware of the growing importance of environmental, social, and governance (ESG) factors in investment decisions. As part of its risk management framework, Mexico is integrating ESG considerations into its debt issuance strategies. Bonilla pointed out that approximately 45% of recent external bond issuance have included an ESG component, significantly higher than in many other markets. This focus on sustainability not only aligns with global investment trends but also enhances Mexico’s attractiveness to a broader range of investors.

The new Sustainability Taxonomy also supports the government’s broader risk management strategy by facilitating better measurement and assessment of financial risks associated with climate change and other environmental factors. Bonilla mentioned that the government is working on a multidisciplinary approach to evaluate transition and physical risks, which are crucial for understanding the potential impacts on the federal balance sheet and for investors.

Additionally, the Taxonomy is linked to the development of new financial products and instruments that can help mitigate risks. By establishing a robust framework, the government aims to attract more investment into sustainable projects while ensuring that these investments are resilient to economic and environmental shocks.

Looking ahead, the Mexican government is committed to maintaining a proactive stance in its risk management efforts. Bonilla highlighted the importance of continuous assessment and adaptation of strategies in response to changing market conditions. The Annual Borrowing Plan, published each December, serves as a key tool for evaluating the effectiveness of current strategies and making necessary adjustments based on new findings and economic forecasts.

Domestic Market Development

The Mexican government has undertaken significant initiatives to enhance liquidity and foster the development of its domestic capital markets, reflecting a strategic commitment to creating a robust financial ecosystem. Maria del Carmen Bonilla outlined the government’s multifaceted approach to improving market conditions and ensuring that both the sovereign and corporate issuers can access the necessary funding in pesos.

A cornerstone of this strategy is the introduction of a new benchmark, the TIIE Fondeo rate, which serves as an organized collateralized rate. The TIIE Fondeo is based on the Mexican repo market, which is highly developed and liquid. This liquidity helps facilitate smoother transactions and better pricing for financial instruments. It also aligns with international best practices for benchmark rates, making it more compatible with global financial systems and improving investor confidence.

The TIIE Fondeo initiative aims to lower funding costs for the corporate sector, making it easier for businesses to secure financing. Bonilla noted that the TIIE Fondeo format allows for significant benefits, particularly in terms of pricing, as it provides a more favourable environment for collateralized transactions in the repo market. By enhancing the efficiency of these transactions, the government is actively working to improve liquidity in the domestic market, she said.

In addition, the government has shifted its focus from issuing traditional Bondes D to the more innovative Bondes F. The key distinction between the two instruments is that Bondes F is linked to the new TIIE Fondeo benchmark rate, whereas Bondes D relies on the weighted average inter-bank funding rate (BFR).

Among the advantages of Bondes F are that TIIE Fondeo rate is a floating rate that adjusts based on market conditions, which can provide better returns in a rising interest rate environment. Also, as Bondes F are linked to the TIIE Fondeo rate, they are generally more liquid in the market. Furthermore, as the TIIE Fondeo rate is closely tied to various financial instruments, including futures contracts, investors can hedge against interest rate risks more effectively, providing a layer of financial security that may not be as readily available with Bondes D. Finally, since the TIIE rate reflects the central bank’s monetary policy, Bondes F can provide a more accurate reflection of the economic environment, making them a more strategic investment choice during periods of economic change.

The government has decided to stop issuing Bondes D and the last one will settle in August 2026. One of the advantages of the newer Bondes F structure is that it recognizes the new TIIE Fondeo benchmark rate.

The new benchmark rate is operating on the cash market, and starting in January 2025, its use will be mandatory on the derivatives market.

“When the market gains traction and increases in volume, it will be easy to buy the cash instruments, and trade the derivative contracts, and to switch from fixed to floating rates or vice versa multiple times,” Bonilla said.

Mexico’s central bank has played a crucial role in these developments, recently releasing new regulations on repo and reserve repo transactions. These regulations are designed to enhance liquidity not only for government securities but also for corporate issuers and development banks. By allowing for greater flexibility in repo transactions, the government is working to create a more integrated and efficient financial market.

Moreover, the introduction of the switch tender offer mechanism has been pivotal in increasing liquidity for benchmark securities. This mechanism allows the government to enhance the liquidity of specific securities outside the regular auction calendar, enabling quicker adjustments to market conditions. By facilitating more responsive liquidity management, the government aims to create a more dynamic and resilient market environment.

The Green Shoe option included in the Market Maker program has also been expanded to address market volatility. This program allows for the issuance of additional securities in response to high demand, thereby providing the Ministry of Finance with the flexibility to manage its funding needs effectively. Bonilla noted that this initiative has been particularly useful in navigating periods of market uncertainty, allowing for a more stable pricing environment.

The government’s efforts to enhance liquidity are complemented by regulatory changes aimed at simplifying the process for smaller companies to access capital markets. Recent amendments to the securities market law have introduced streamlined procedures for SMEs, allowing them to list their debt and equity more easily. This initiative is expected to broaden the base of issuers in the market, thereby increasing competition and enhancing overall market depth. Bonilla highlighted that these changes could potentially unlock access to financing of up to MXN$70 billion annually for SMEs, which is crucial for fostering economic growth and innovation.

As the market evolves, the focus on ESG compliance remains a priority. This trend reflects a growing recognition among investors of the importance of sustainability in their investment decisions. The government is committed to providing clear guidelines to prevent greenwashing and ensure that ESG investments are genuinely impactful.

Overall, the initiatives aimed at enhancing liquidity and developing the Mexican capital markets are indicative of a broader strategy to position Mexico as a competitive player in the global financial landscape. By fostering a more inclusive and responsive market environment, the government is not only addressing current challenges but also laying the groundwork for sustainable economic growth in the future. As these initiatives take root, they are expected to attract a diverse range of investors, further solidifying Mexico’s status as a key destination for capital in the region.

Investor Perspectives

Juan Fullaondo, Head of Latin America & Caribbean DCM at Scotiabank, articulated a growing perception of Mexico as a relatively safe haven for investors, particularly within the emerging markets landscape. This sentiment is underpinned by Mexico’s stable economic fundamentals and its strategic integration into North American supply chains.

“Mexico is one of the jewels of the crown,” Fullaondo remarked, emphasizing that investor demand for Mexican sovereign bonds remains strong, reflecting confidence in the government’s fiscal management.

Fullaondo noted that many investors are “substantially overweight” in their exposure to Mexico, indicating a strong demand for Mexican assets. This was evident during a recent bond issuance, where the Mexican government attracted approximately US$18 billion in demand for a proposed US$2.5 to US$3 billion bond, ultimately placing US$4 billion in the market.¹ Such oversubscription highlights the confidence investors have in Mexico’s economic resilience and growth potential.

Investors are hopeful for a greater supply from Mexico. A key concern among investors is the scarcity of 144A issuances, which has become increasingly pronounced. This scarcity is partly due to the success of domestic markets, which have become increasingly efficient. Investors are now able to place significant amounts—ranging from US$500 million to US$1 billion—within a 10-year maturity space, often finding better terms than those available in international markets.  As a result, many corporations are opting to issue bonds domestically rather than in international markets, leading to a reduction in the availability of 144A securities.

Fullaondo pointed out that this shift has implications for liquidity and pricing, as international investors navigate a landscape with fewer options. To address these challenges, the Mexican government has implemented several strategies aimed at enhancing market liquidity.

As the market continues to evolve, the interplay between domestic policies and global economic conditions will remain critical. Investors are closely monitoring macroeconomic indicators, including inflation rates and interest rate trends, as these factors influence their investment strategies. Fullaondo expressed optimism, noting that the current trend of declining interest rates could spur increased activity in the Mexican bond market.

Scotiabank’s Commitment to Mexico

Scotiabank has reaffirmed its commitment to Mexico, recognizing the country as a strategic priority within its broader North American operations. José Jorge Rivero, Senior Vice President of Corporate Banking & Capital Markets, International Banking at Scotiabank, emphasized that Mexico’s unique position in the global economy, particularly through the nearshoring trend, presents significant growth opportunities. This phenomenon, driven by shifts in supply chains, allows companies to relocate operations closer to the U.S. market, enhancing efficiency and reducing costs.

Over the next five years, Scotiabank plans to intensify its capital deployment in Mexico, aiming to capture a larger share of the advisory, capital markets, and transactional banking sectors. The bank is uniquely positioned as the only Canadian institution with a comprehensive presence across the North American corridor, facilitating seamless service for clients operating in Canada, the U.S., and Mexico. This strategic focus is not only about expanding market share but also about enhancing product capabilities, particularly in derivatives across various asset classes.

Part of Scotiabank’s strategy is its commitment to environmental, social, and governance (ESG) initiatives. Mexico has emerged as a leader in the issuance of ESG-labelled bonds, surpassing many developed markets. In 2023, approximately 47% of bond issuances in Mexico carried an ESG label.² Scotiabank is a leading participant in the ESG league table in the country and has a target of C$350 billion to be deployed globally in climate-related financing by 2030³, with Mexico being a part of this goal.

Scotiabank’s approach is underpinned by a belief in Mexico’s robust economic fundamentals. The country boasts a diversified economy and strong ties to major trade partners, positioning it favourably to attract foreign investment. Rivero highlighted that the stability of the Mexican peso and the absence of significant capital outflows during turbulent times further bolster investor confidence.

Moreover, the bank is actively involved in enhancing local market capabilities, ensuring that Mexican companies can access the necessary financial instruments to thrive. This includes a focus on developing a more sophisticated derivatives market and improving liquidity in local capital markets. By fostering these advancements, Scotiabank aims to create a more resilient financial ecosystem that can support Mexico’s growth trajectory.

Outlook

The outlook for Mexico’s debt capital market is characterized by a strategic focus on diversification, sustainability, and responsiveness to evolving economic conditions. The Mexican government is actively working to enhance its debt portfolio by issuing bonds in multiple currencies and prioritizing ESG criteria, which has led to a significant portion of recent issuances being labelled as sustainable. This commitment positions Mexico as a leader in the ESG space, attracting interest from both domestic and international investors.

The nearshoring trend, which sees companies relocating supply chains closer to the U.S., presents a unique opportunity for Mexico to capitalize on its geographical advantages. This shift is expected to drive economic growth and increase demand for financing, prompting financial institutions to bolster their capital market capabilities in the region.

Investor sentiment remains strong, with many viewing Mexican debt as a stable and attractive option. However, there is a notable scarcity of issuance, which limits available investment opportunities. The local market has become increasingly efficient, allowing for substantial placements, yet the lack of 144A issuances has created new challenges.

Structural changes within the market are also underway, with new regulations aimed at increasing liquidity and facilitating access for smaller companies. Initiatives like the introduction of the TIIE Fondeo rate are designed to improve funding costs for corporates and enhance the overall market structure. Additionally, a comprehensive risk management strategy is being developed to mitigate potential external shocks, particularly in light of global economic uncertainties.

In summary, the future of Mexico’s debt capital market appears promising, driven by strategic government initiatives, a strong emphasis on sustainability, and the potential for increased foreign investment. As the market continues to evolve, the focus on local participation and sustainable financing will likely play a crucial role in shaping its trajectory, making it an exciting landscape for investors.

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