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Mexico’s oil hedge is estimated to pay US $2.5bn dividend

The annual insurance policy protects Mexico against declines in oil prices

The federal government is expected to receive a payout of about US $2.5 billion from its 2020 sovereign oil hedge, according to people with knowledge of the transaction who spoke to the Bloomberg news agency.

It will be just the fourth time in the past 20 years that Mexico gets a payout from the oil insurance policy it has taken out annually since the turn of the century.

The Mexican government protects its oil revenue by purchasing options contracts from a select group of investment banks and oil companies. The hedging program runs annually from December 1 to November 30 and the 2020 hedge expired Monday.

World oil prices plummeted earlier this year due to the coronavirus pandemic and associated economic restrictions, with Mexican crude selling well below the hedged price. Hence the lucrative estimated payout.

Bloomberg noted that the government hasn’t yet publicly announced the size of its hedge profit but said it released some financial data earlier in 2020 that make approximate calculations possible.

The government told lawmakers that via the oil hedge and a budget revenue stabilization fund, it had locked in a $49 per barrel price for 2020. That price was what it assumed in formulating the federal budget.

Only a couple of dollars of the insured price are normally covered by the stabilization fund, meaning that it is relatively safe to assume that Mexico has a massive $45-$47 per barrel hedging deal with a group of Wall Street banks and oil companies.

Based on such a deal, the government will receive a payout in excess of $2 billion. The people who told Bloomberg that they estimated a $2.5 billion payout spoke on the condition of anonymity because details about the hedging deal are not public.

While a payout of that size is significant – and much needed by the government amid the coronavirus-induced economic crisis that has caused tax revenue to fall – it could have been even bigger if oil prices didn’t recover as strongly as they have.

President López Obrador said in April that the government could receive a $6 billion payout if prices remained as low as they were then due to the pandemic. During that month, Mexican oil sold for just $12 per barrel on average. At one stage in April the price of Mexico’s export crude fell into negative territory for the first time ever due to extremely low demand among other factors.

However, the price recovered and a barrel of Mexican oil was trading above $40 last week.

Bloomberg reported that the government’s oil hedge has protected Mexico in every oil price downturn of the past 20 years. It received a $5.1-billion payout in 2009 after prices plummeted during the global financial crisis and it got $6.4 billion in 2015 and $2.7 billion in 2016 after Saudi Arabia waged a price war.

The government used to reveal details about its hedging arrangements but has kept the most sensitive data under wraps since 2018. The program is run by the Finance Ministry (SHCP) and executed by Mexico’s central bank.

Pemex, the state oil company, also hedges against the possibility of low petroleum prices but its program is dwarfed by that of the SHCP.

Source: Bloomberg (en) 

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