Pemex to Build Refinery? Then We Need Guarantees, Investors Say

(Bloomberg) -- Investors in Petroleos Mexicanos were nervous about President Andres Manuel Lopez Obrador’s plans to build a refinery even before he entrusted construction to the state-owned company itself Thursday. Now, they want guarantees.

"A way to handle this without losing investment grade rating, or even one notch, is by the government giving full support for Pemex debt," said Gabriel Casillas, chief economist and head of research at Banorte. "They would have to change the prospectus, or even just say it.”

One solution could be to offer to swap Pemex debt for dollar-denominated government bonds, he said, adding it’s an option but not necessarily his suggestion.

Despite repeated promises, Lopez Obrador has yet to stem over a decade of production declines at Pemex, with oil output sliding 12% in the first quarter from a year ago. Meanwhile, investors have fled the company after Fitch Ratings lowered it by two notches this year. With $106.5 billion in debt, Pemex holds the dubious title of the world’s most indebted oil major, and since the first quarter results, yields on Pemex bonds are the worst performers among Mexican issuers.

Host of Unknowns

Lopez Obrador abandoned the bidding process for his $8 billion Dos Bocas refinery and handed the project to Pemex on Thursday, saying that private companies were asking too much for it. The same day, the peso fell the most among major currencies after South Korea, while Pemex bonds led Mexico losses. On Friday, the president said the new refinery will process 300,000 barrels per day.

"Building it yourself is stupid, and it’s bad for Pemex because they don’t know what their costs will be or when they will finish it," said Luis Maizel, a senior managing director of LM Capital Group in San Diego, which holds Pemex bonds. Mexico "can calm things down by saying ‘we assure you that Pemex will always fulfill its obligations prior to the government withdrawing taxes. ’"

Moody’s Investors Service raised concern that giving Pemex the refinery project risks delays and rising costs, and that the government’s 2022 deadline looks too optimistic. Fitch cut Pemex’s score by two steps this year to BBB-, the lowest investment grade. Moody’s has Pemex at the same level, while S&P has it two levels higher at BBB+, and lowered its outlook for the sovereign to negative from stable, citing Mexico’s decision to limit private sector involvement in energy.

Investors’ Priorities

Shamaila Khan, the head of emerging-market debt at AllianceBernstein in New York, said Mexico will have to guarantee future Pemex debt as funding costs for the company have gone up. Both Khan and Maizel said it doesn’t make sense to do a swap at this time.

Investor Josephine Shea, a senior portfolio manager at BNY Mellon in Boston, said she’d consider swapping her Pemex bonds for government debt if the offer were at par. However, more meaningful than a swap program, would be seeing new rescue measures put into effect, said Shea, whose fund manages $540 billion.

After two attempts to aid Pemex fell short of market expectations, the Finance Ministry has said it may use about $6 billion from a rainy day fund to help ease the company’s debt burden.

"The timeliness for support is now more than ever sooner rather than later," said Shea.

©2019 Bloomberg L.P.