Latin America barreling toward a maelstrom

At least two global financial services firms have warned in the past week that oil reference prices are on the brink of sinking to decades-old lows.  

In a worst-case scenario – one that contemplates a failure to control the coronavirus pandemic and an ongoing oil price war between Russia and Saudi Arabia – Brent crude is seen plummeting to US$10-15/b, according to analysts from AxiCorp and Barclays. 

That compares to US$68/b in January and would represent Brent's lowest price since 1999, when the benchmark briefly dipped to US$9.77/b.

Such a state of affairs would have dire consequences for Latin America and its state-owned oil companies, though some are more exposed than others. 

"Among the largest economies in the region, Venezuela, Argentina, Colombia and Ecuador are the most likely to be heavily impacted by the sharp decline in oil prices," Nicolás Urrutia, a senior analyst at Control Risks, told BNamericas. 

"Although conditions vary from country to country, the governments in these four are particularly reliant on oil revenues to finance their expenditures, either through direct ownership of oil exploration and production companies, or through royalty agreements."

EXPOSURE

According to analysts consulted by BNamericas, Venezuela's PDVSA has the region's highest breakeven price because of its heavy fiscal burden. The price at which the Caracas-based company needs to sell its oil to make a profit has been estimated to be higher than US$100/b. 

Mexico's Pemex is also vulnerable, given that more than 80% of its oil has a breakeven price above US$35/b, according to Wood Mackenzie. 

Brazil's Petrobras, meanwhile, requires an oil floor price of US$35-45 to stay in the black while the profit thresholds for Argentina's YPF and Colombia's Ecopetrol are US$40/b and US$30/b, respectively. 

While Ecopetrol's breakeven point is lower than its counterparts, Colombia's public finances are susceptible to price volatility because of the country's heavy dependence on oil, which comprises more than 50% of its export revenue. 

"With regard to national oil companies, we believe Petrobras, Pemex, PDVSA, Ecopetrol, YPF and Petroperú are most exposed to the price decrease, given their dominant positions in the market and their limited ability to right-size their operations due to bureaucratic limitations and political push-back to cuts in personnel and opex," Urrutia added.

SHRINKING MARKET

An even sterner test awaits the myriad smaller companies with operations in the region. Colombia alone has dozens of independent producers which together account for around 40% of the country's total crude output. 

According to Urrutia, the number of junior players is likely to shrink as many either sell up or cede their operations. 

"At current prices those companies can ill afford to continue operating in the short term," he said. "Companies like Ecopetrol and Petrobras will be able to bear the brunt of prices for one, two or even three years. They are very unlikely to disappear or drastically reduce operations. But there is a risk to that second tier that has brought dynamism to the industry."

AxiCorp's chief Asia market strategist Stephen Innes believes Saudi Arabia's fellow OPEC members and the US must agree to limit output to stop the rot. 

“Oil could head to US$10 or US$15 a barrel very quickly if OPEC and Texas can’t reach an agreement on cutting production," Innes said. “Any traders with the capacity to store oil are probably putting their hands up, looking at the contango.”

PERFECT STORM

Innes and other market observers see all the hallmarks of a perfect storm. Even if production is curtailed, the demand freefall is set to accelerate as COVID-19 forces 3bn people into lockdown.  

On Thursday, the International Energy Agency said measures to combat the coronavirus outbreak could drive down oil demand by as much as 20Mb/d (million barrels a day) – about one fifth of the 2019 average. 

Oilfield operators are already going into damage control. In the past month, YPF, Ecopetrol and Petrobras have slashed more than US$5bn from their 2020 capital programs.

More cuts are surely on the way as the industry braces for headwinds not seen since the 2014 energy market crash. 

And while Latin America's national oil companies will ride out the crisis – albeit with implications for their local economies – the region's raft of smaller players are facing a battle for survival.