Exchange-Rate Risk Mitigation with Price-Level-Adjusting Mortgages: The Case of the Mexican UDI

In 1995, Mexico introduced a credit system based on a price-level-adjusting unit of account called the Unidad de Inversion (UDI, pronounced “oo-deeâ€), which is Spanish for “unit of investment.†The Bank of Mexico maintains an UDI Index, which sets the peso value of an UDI on any given day. Loans denominated in UDIs maintain their purchasing power and provide a real rate of return in the local currency, pesos. The focus of this study is the real rate of return earned by dollar investors in UDI mortgages. Most dollar investors fear exposure to exchange rate losses in unstable currencies. In this paper, we examine the real-dollar rate of return and the extent to which the inflation adjusting aspect of the UDI mitigates the losses from currency devaluations. We also examine exchange-rate patterns relative to purchasing-power-parity to find investment strategies that increase the real-dollar rate of return on investments in Mexico’s UDI mortgages.