Mexico crude output stumbles in October

Mexican crude oil production dropped to 1.662Mb/d in October, ending a four-month streak of increases and reaching its lowest level since May.

The data, reported Friday by the national hydrocarbon information agency (CNIH), said crude output fell 4.7% year-on-year and 2.9% from the previous month.

Natural gas production was down 0.9% on a monthly basis to 4.952Mf3/d and increased 1.8% year-on-year.

The CEO of Mexico’s state-owned oil company Pemex, Octavio Romero Oropeza, hinted at some fourth quarter weakening in comments earlier this month, saying output would be about 1.75Mb/d by year-end and lowering the firm’s earlier estimate of 1.8Mb/d.

President Andrés Manuel López Obrador (AMLO) has staked much of his political capital on resurrecting the struggling Pemex. 

The Friday production data came only hours after Mexican lawmakers passed the expenditure portion of the 2020 budget, locking in expectations of crude production rising to 1.95Mb/d next year.

The government is seeking to avoid a loss of investment grade status at Pemex. With a debt pile of US$106bn, Pemex is today the most indebted oil company in the world.

Many investment funds holding Pemex debt would trigger automatic sell-offs in the event that two of the three major agencies lower their long-term ratings to junk status. Fitch has already downgraded Pemex to junk, and the government and market observers are awaiting the next move from Moody’s and S&P.

Moody’s said in a statement on Thursday that it had completed its periodic review of Pemex and it held off from announcing a credit rating action, merely suggesting the review was complete. A final decision would now appear imminent.

Change in strategy

Credit Suisse's chief economist, Alonso Cervera, speaking Thursday at a business summit hosted by the Mexican finance executive association (IMEF), suggested that the NOC’s current strategy stands to spark an increase in production, but that it would not last long.

Cervera said Pemex is ramping up efforts to explore easily accessible, shallow water, and onshore fields where it is highly likely to find crude, but he added that any boost to production would last two or three years and then there will be a decline.

“If you follow this path, where the support and investment into Pemex comes from the public sector and not from the private sector, the result will be greater pressure on public finances,” said BBVA's chief economist in Mexico, Carlos Serrano, at the IMEF event. 

Serrano further urged government officials to reconsider starting farmouts with the private sector in exploration, especially in deep water, in order to increase oil production. 

“It seems to me that if the course is not changed and the farmouts do not resume, [the sovereign] could lose investment grade, not now, but in about three or four years, simply because there is no fiscal space for this support to come from the government.”

AMLO’s chief of staff, Alfonso Romo, hinted on October 11 that the government would be holding meetings by year-end with private oil firms that had proven production in Mexico to discuss future rounds, but there has not been any announcements since then.

Fates aligned 

Analysts at both S&P and Moody’s have in recent weeks stressed the strong linkage between the movement on the sovereign rating and those of Pemex due to the extraordinary level of support they see the government giving to the NOC.

The sovereign currently sits at BBB+ with a negative outlook at S&P and A3 with negative outlook at Moody’s. The bottom rung for investment grade is BBB- for S&P and Baa3 for Moody’s, meaning the sovereign could drop three notches at Moody’s and two notches at S&P before government debt reaches the threshold of junk status. 

Cervera said on Thursday that it seemed like both agencies would downgrade the sovereign at least once in the next year, though he added that the rating cuts would not be due to the health of public finances, but rather because of slow economic growth and institutional erosion.

Serrano agreed that it is very feasible that S&P and Moody's will lower the sovereign rating and he added that the market has already priced in some downgrade action from the agencies. 

"I think the problems will start to come if [S&P] lowers us to BBB- and there it would be a little step away from losing the investment grade," he said.

The long-term ratings for Pemex, meanwhile, are already at BBB+ in the case of S&P and Baa3 at Moody’s. Fitch lowered Pemex’s ratings from BBB- to junk status (BB+) in June.