(Bloomberg) -- Chilean bonds are set to extend their recent gains after the central bank slashed interest rates and traders started to bet on an even larger cut at the next meeting — though the Federal Reserve could still upset the party.

Seven of 11 analysts and traders in a monthly Bloomberg survey expect policymakers to cut the key rate by 1.25 percentage points in April, the biggest reduction since 2009. The bank lowered borrowing costs by one point to 7.25% last week, speeding up monetary easing for the second consecutive meeting.

“The decision of the central bank to accelerate the cut at this meeting with respect to the previous one reflects that inflationary convergence is already a reality,” said Alexis Vega, head of market making at Banco de Credito e Inversiones in Santiago. “This means that there is still more room for a steeper cut, possibly 125 basis points in April.”

Bonds rallied on last Wednesday’s rate cut, with the yield on 2026 peso-denominated sovereign notes dropping as low as 2.55% from 2.79% at the end of the week before. Over 90% of those surveyed by Bloomberg expect nominal yields to fall further in February, while only one thinks they will hold steady. On top of that, more than four-fifths think the rates curve will steepen further.

The swaps market tends to be more liquid in Chile, making it easier to chart the change in perceptions. One and two-year swap rates have fallen 99 and 62 basis points, respectively, in the past month. 

“I expect the short part of the curve to continue to be pressured downwards, with local macro data as the main driver,” said Diego Pino, head of trading at Scotia Corredora de Bolsa. “The long part should be more in line with what happens abroad with the Fed.”

And that is proving to be a wild-card. US payrolls leaped by almost twice as much as analysts expected in January, sending Treasury yields soaring and emerging-market currencies lower on Friday.

Even before that report came out, most traders and analysts said that clues on the US Federal Reserve rate trajectory will be the main driver for local yields this month. The Fed signaled Wednesday that it might keep borrowing costs on hold for longer as Chair Jerome Powell threw cold water on hopes that reductions would begin in March. Now analysts are even beginning to doubt a move lower in May.

A delay to rate cuts in the US and continued reductions in Chile could undermine the peso, which is already trading at the lowest in more than three months.

“An important risk factor arises in the Fed’s evolution and how uncomfortable the central bank may feel with an even weaker peso,” said Sebastian Ide, head of the trading desk at Banco de Chile. 

What’s more, the central bank keeps changing the pace of easing, making it harder to predict. Policymakers started the cycle with a one percentage-point cut in July, then slowed the pace to 75 basis points in September, then to 50 points in October, before accelerating back to 75 points in December and now back to 100. 

Shorter-Dated Preferences

But for now, most analysts and traders recommend investing in CPI-linked UF and peso instruments of short duration, in line with last month’s surge. 

That preference is based on expectations that slowing inflation will pave the way for steep rate cuts, regardless of what the Fed does, according to Pino.

Consumer prices fell 0.5% in December, the biggest drop since 2013, slowing annual inflation to 3.9% from 4.8% the month before. The central bank expects inflation to reach the 3% target before its previous guidance, policymakers said in the statement accompanying the decision Wednesday. 

The board saw headline inflation reaching 3% in the second half of 2024 in their quarterly monetary policy report released in December, but now considers convergence to the goal will happen sooner than that. 

Downward surprises in the inflationary front and in economic activity support “a more aggressive cut in the April meeting and a higher likelihood of seeing the benchmark rate around its neutral level by” the third quarter of the year, Credicorp’s Chief Chile Economist Samuel Carrasco wrote in a report Thursday. 

* Question was included in this survey. Replaced question about the constitutional process.

ECONOMIC CALENDAR

All events in Santiago local time.

  • Chile:
    • Feb. 7 8:30am: January Trade Balance
    • Feb. 8 8am: January CPI
  • International:
    • US:
      • Feb. 5: January Final S&P Global US Services PMI
      • Feb. 7: December Trade Balance
    • China
      • Feb. 7: January PPI
      • Feb. 7: January CPI
    • Europe
      • Feb. 5: January Final HCOB France Services PMI
      • Feb. 5: January Final HCOB Eurozone Services PMI
      • Feb. 8: ECB Publishes Economic Bulletin

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