Massive debt at Pemex is pushing Mexican bonds towards junk status as doubts grow over whether the government’s rescue plan for the state oil company will work.
Pemex is the most indebted oil company in the world, owing US $107 billion. But its output is declining.
As a result, Mexico’s government-debt spreads are now higher than those paid by emerging market nations that are rated two notches below Mexico’s BBB+, Bloomberg said.
A pertinent example is that of Brazil, which has a junk level credit rating because of its high level of indebtedness, yet Mexico’s average debt spread is wider than that of its Latin American peer.
After Fitch Ratings last month cut Pemex’s credit rating to one level above junk, sovereign bonds deteriorated further and there is now increasing speculation that Mexico’s credit rating could also be downgraded.
Just under 70% of respondents to a Bank of America client survey said that they expect Mexico’s credit rating to drop below investment grade in “coming years.”
President López Obrador has pledged to rescue Pemex but it is unclear where he will get the money to do so while maintaining his pledge of economic austerity.
“We have the resources . . . We’re going to lighten Pemex’s tax burden like never before,” the president said, explaining that “savings” – from where he didn’t specify – would fund US $3.5 billion in tax breaks.
However, Graham Stock, senior emerging markets strategist at asset manager BlueBay, believes that “Pemex needs $10 billion to $15 billion of relief per year but that is a significant tax cut — around 1% of GDP.”
Thwarting that possibility is that Mexico’s economy is slowing and many analysts believe that growth will be under 2% this year.
López Obrador has also pledged to inject US $1.25 billion into Pemex to boost crude production but analysts say that the target of 2.4 million barrels per day (bpd) by 2024, compared to 1.73 million bpd in December, is unrealistic.
They have also questioned the government’s decision to build a new oil refinery on the Gulf of Mexico coast in Tabasco in order to reduce reliance on United States imports because refining is less profitable than exporting crude.
“I don’t think Pemex can cling to investment grade much longer unless the government takes drastic action — and the government thinks it is taking drastic action, that is what is concerning,” said Shamaila Khan, head of emerging market debt at investment manager AllianceBernstein.
However, she also said that pumping more money into Pemex could damage Mexico’s fiscal position.
“To the extent Pemex support comes at the expense of fiscal performance, that is going to impact sovereign ratings,” Khan said.
Charles Seville, a senior director at Fitch, told Bloomberg that “to provide the scale of support that would be needed to really give Pemex more room to invest and turn around its business, it might require foregoing significant amounts of revenue from the government.”
Roger Horn, a senior emerging-markets strategist at SMBC Nikko Securities America in New York, said that Pemex isn’t Mexico’s only problem with regard to attracting investment, contending that it’s also the “erosion of the institutional framework that had underpinned investor confidence in the Mexico story over the past three decades.”
The government’s decision to cancel the partially built US $13-billion Mexico City airport project, taken before it assumed office, is one example of an action that has eroded investors’ confidence in the country.