Pemex’s Woes Reverberate in Mexican States as Bond Swoon Deepens

Bond investors in Petroleos Mexicanos have been saddled with losses this year as the oil producer’s woes deepen. Now the states that rely on the company for revenue are poised to feel the pain.

Moody’s Investors Service said March 16 that the oil-patch states of Tamaulipas, Veracruz, Tabasco and Campeche will be the hardest hit as output at the state-owned company plummets. Four days earlier, a Pemex official said production may fall for an 11th straight year to the lowest since records began in 1990.

The announcement is the latest setback for Pemex, whose bid to revive its fortunes after Mexico ended its seven-decade monopoly has been upended by the collapse in oil. The company’s dollar-denominated bonds have lost 2.4 percent on average this year, versus a 0.6 percent gain for emerging markets.

“States are going to have to start tightening their belts,” Francisco Vazquez-Ahued, an analyst at Moody’s, said by telephone from Mexico City. “Oil production has been much lower than expected so far this year and we think Pemex will not attain its output goal.”

Gustavo Hernandez, Pemex’s exploration and production chief, said March 12 that output will sink to 2.29 million barrels a day in 2015, 7 percent below its initial target. In a statement later that day, Pemex said it may still reach the earlier target through joint ventures.

‘Important Challenge’

States depend on federal transfers called participations for about 88 percent of the revenue they need to repay debt, according to Moody’s Vazquez-Ahued. Those payments are set to fall 5 percent this year, he said.

President Enrique Pena Nieto is urging states to prepare for larger revenue declines next year, according to Finance Minister Luis Videgaray. Oil accounts for a third of revenue at the national level.

“The important challenge for public finances is in 2016 and beyond,” Videgaray said at a LatinFinance conference in Mexico City on March 18. State governments “have to plan for a 2016 in which it’s highly probable they’ll have less revenue.”

Mexico bought hedges that give it the right to sell oil at $76.40 a barrel, safeguarding most of its export revenue this year. It doesn’t have protection against lower-than-expected output or hedges that guarantee it an above-market price in 2016. Oil has plunged 57 percent since June to $43.84 a barrel on March 18. The peso climbed 1.5 percent to 15.0531 per dollar at 10:39 a.m. in New York.

Midterm Elections

Reining in spending may prove difficult for some states and municipalities as Mexicans go to the polls June 7 to choose lower-house lawmakers and nine state governors, Standard & Poor’s analyst Daniela Brandazza said.

“States are going to have to control their operating expenses and capital spending plans,” she said in a telephone interview from Mexico City. “It’s still a challenge to create that kind of prudent culture in an election year.”

While Mexico may tap a state revenue stabilization fund to make up for shortfalls, lower production will hurt the oil-producing states more because some federal transfers are earmarked based on petroleum output, Moody’s Vazquez-Ahued said. Declining output will also hurt economic activity more broadly in those states.

“Sustained low oil prices and further declines in production would likely reduce the overall level of federal transfers for 2016,” Vazquez-Ahued said.

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