A closer look at the Mexican energy opening threatened by elections and the impact of volatility & inflation on the oil market.
Mexican energy opening threatened by election, impact of volatility & inflation on oil.
After a prolonged period of low volatility on global stock markets, a marked increase in bond yields has spooked investors with the possibility of a return to an inflationary environment resulting from strong economic growth. In lockstep with falling markets, oil has retreated from recent highs. However, inflationary pressures resulting from robust growth translates into increasing oil demand, with Goldman Sachs predicting growth at +1.9 Mbpd(1) in 2018, building on a strong 2017 (+1.6 Mbpd)(2) with better then expect demand growth across US, Europe and China last year.
Turning to supply, the US shale industry has matured in era of quantitative easing with supportive capital markets. Historically, the shale industry has derived 40% of requited capital from debt and equity markets, with the shale industry spending $265 billion more than cash received from operations since 2010(3). Due to exceptionally high decline rates experienced by unconventional plays, continuous investment into new wells is required to maintain output; in 2018 shale players have a funding gap estimated at up to $20 bn at $60 WTI.(4)
Whilst an increase in oil price will be supportive of an expanding reserve base, it is yet to be seen to what extent an inflationary environment will hinder access to capital for the sector, a critical enabler required for shale players to achieve ambitious production forecasts.
- Mohammed Chunara, Associate Director, Energy & Natural Resources, KPMG in the UK
On 31 January, the National Hydrocarbon Commission (CNH) successfully auctioned off 19 out of 29 deep-water fields as part of the fourth phase of round two of the country's emblematic energy reform. This is the second time that Mexico auctions deep-water fields, following the December 2016 1.4 round in which 8 out of 10 were awarded and the initial PEMEX´s deep water farm-out of TRION . The government expects investments of $93 billion over the lifetime of these projects and upfront payments that exceed $525 million in cash, marking one of the most competitive and significant bid rounds yet. SENER prospective program for Oil and Gas, considers production of around 1.5 million additional barrels per day by 2032. This figure corresponds to the High Scenario for all E/P activities such as: onshore, shallow waters, unconventional and deep waters including PEMEX. The bid round is part of the administration's final push to advance the energy sector opening as much as possible before the 1 July presidential election. Upcoming rounds are scheduled for 27 March (with 35 shallow water blocks) and 27 July (37 onshore oil and gas conventional fields) with a tentative auction for the first shale and oil gas fields to take place by the end of 2018. The energy opening has been the administration's biggest success and has improved the long-term outlook of the sector. But progress made by Pena Nieto's administration would be trumped by a Lopez Obrador victory in the election. He remains against the opening of the sector and the diminished role of Pemex, and has not backed down from his most controversial proposals like: stopping the opening, suspending any new farm-outs from Pemex, reviewing the contracts so far awarded, organizing a referendum to see if the reform should be reversed, and building at least two refineries. Completely reversing the reform would be extremely difficult for Lopez Obrador to achieve, as he would lack majorities in congress. But the power that the energy reform granted to the executive branch would allow him to put a hand-break to the opening of the sector and create a very negative environment for the companies already operating in the country.
- Carlos Petersen, Eurasia Group Analyst, Latin America*
*Guest contributor for February edition
Note: The forecasts/analyst estimates above from Brent & Henry Hub are an indication based on third party sources and information. They do not represent the views of KPMG.