Domestic political developments have remained a key source of pressure on Chilean assets in 2021. This has been driven by mainly three key developments.
First, a constitutional reform process has been underway since earlier in the year and is not likely to provide much clarity until early 2022. Following the social protests in 2019, Chileans voted in October 2020 for a convention to formulate a new constitution for the country. In the context of social protest and COVID-19, we continue to expect the market to assign some risks to maintenance of prudent fiscal policy.
The second main source of risk has been pension fund withdrawal. So far, the government has allowed three rounds of pension withdrawals by participants. Most individuals have taken withdrawals from pension savings given COVID-related income losses. As a result, pension fund assets are now down 20% since Feb 2020, despite pension fund-weighted performance of +10% over the same period. The government is now working on a fourth pension fund withdrawal, although that now seems less likely to be passed. The constitutional process still leaves some risks for the future of the pension system and implications for monetary policy in the short term.
Finally, elections for the President, House and half of the Senate will take place later this month (on November 21). The polls seem to suggest that the Presidential elections will likely head to a runoff between Gabriel Boric (center-left) and Jose Antonio Kast (right). The polls for the second round indicate that Boric has a better chance of winning the election but that Kast continues to gain ground. As with most emerging markets elections where a center-left candidate leads, markets are unlikely to remove the associated risk premium until after the election, and the winning candidate moderates their rhetoric in the transition from campaigning to governing. We don’t view Boric and Chile’s election to be much different from the standard template. Kast’s increased popularity will likely be viewed as positive by the markets.
We expect the Chilean peso (CLP) to benefit should election uncertainty start to decline. CLP has weakened 11% year-to-date, while terms of trade have remained about flat. Local rates in Chile have significantly widened (350 basis points in the 10-year nominal bond) and we would expect the belly to improve should the risks around further pension fund withdrawal start to fade. In external bonds, with Chile trading flat to Peru, we think a fair bit of the premium is also embedded in the price.