Marco Oviedo
Mexico Chief Economist
Barclays
/
View from the Top

Transparency Crucial to Market Confidence

Wed, 01/21/2015 - 10:15

Q: What do the current low prices imply for PEMEX and the attractiveness of Round One?

A: In Round Zero, PEMEX kept most of the projects in which it was involved beforehand, mostly in shallow waters but also in deepwaters. All these projects do not react to short-term oil prices. The barrel will not remain at around US$40-50 for the following 15 years, meaning the projects will go on. That applies for Round One as well. On the other hand, while some mature fields will be profitable, shale projects will definitely not be so at current prices, as they start producing faster and must consider the shortterm perspective of oil price development. The Energy Reform is not going to be as effective as was commonly thought last year, but once prices stabilize, the outlook will be positive again. In the past, we estimated that the Energy Reform would add 80 basis points to Mexico’s economic growth. Today, we think it may be somewhere between 40-50 basis points. This still means that Mexico could start growing at 3-3.5% in the following three years. Taking into consideration that the Mexican economy has been growing at an average of 2.7% for the past 30 years, the Energy Reform will definitely have a positive impact on economic growth, even with low oil prices.

Q: How attractive is Mexico as an investment destination when compared with other emerging economies such as Brazil, Russia, or China?

A: It has both strengths and weaknesses. It is close to the US, its geology allows for lower production costs than Brazil or South Korea, and it has the excitement of being a new market where companies will seek to carve out the largest market share possible. Furthermore, Mexico is a manufacturing country and there is a chance that some manufacturing firms become specialized in the oil and gas industry, increasing the country’s available supplier inputs. These are all positives and firms are aware of that. Its weaknesses include a poor level of infrastructure, which the government has to deal with, particularly in areas where projects are being developed. Another problem is institutional. Local governments are not the most transparent, while oil companies will have to deal with them in Tabasco, Chiapas, Veracruz, or Tamaulipas. The problem of drug cartels also remains present. I do not know if these will prevent companies from investing in the country, but it is obviously a challenge. The final problem is human capital. Given that the sector was a state monopoly for many years, there is a scarcity of human capital, especially petroleum engineers, technicians, and lawyers specialized in energy. That is going to be a challenge for operators looking to enter the Mexican market. They will probably end up bringing people from other countries until the educational system in Mexico realizes that this is a potential opportunity for new students.

Q: What are the major risk factors to be considered when evaluating investment opportunities in the reshaped Mexican energy sector?

A: Financial firms are going to be more selective, not only in terms of the countries they invest in but about individual projects. It is still not clear how this is going to affect the future financing needs of oil and gas companies. So far, I have not heard any news that financial institutions are unwilling to allocate resources to oil projects, or energy projects in general. However, they will definitely have to be more conscious of supporting firms that prove themselves capable of facing the future volatility in oil prices and the risk this implies. Another factor will be transparency, particularly given what we have seen from this administration. The transparency with which projects are licensed to the private sector will be crucial. All companies need to be fully satisfied to avoid any legal problems that could delay the whole process or reduce the appetite of these firms to invest in Mexico. The government has to be very clear on more than just the rules. Accountability must also be ensured so that no bad surprises await the private sector, such as we have seen with the cancellation of certain infrastructure projects. Investors are making a strong point in calling attention to these issues of transparency. There was a very bad situation a while ago when the government suddenly cancelled a project that had already been awarded to a private company. The company was given no legal recourse, which raises strong questions in other areas. In the oil and gas sector, we have regulators such as CNH, and even the Central Bank, overseeing proceedings, a benefit which the infrastructure projects did not have.