With the efforts of Donald Trump and Saudi Arabia, the OPEC+ countries managed to set up a meeting to end the Oil Price war that has been affecting the energy market since the beginning of March. On Sunday, the party decided to come to an agreement.
OPEC+ said it would cut 9.7 million barrels a day in oil production in May and June, equivalent to almost 10 percent of global supply, and continue with lower reductions until April 2022, to stabilize global crude markets.
During the negotiations, the most shocking moment was the rejection of the production cut by Mexico. The Mexicans did not agree to cut 400,000 b/d, which was their share according to the deal.
In the end, with the effort of the American president, Donald Trump, the Mexican government agreed to cut 100,000 b/d, and the United States decided to cover the rest of the Mexican supply cut.
The motivation behind the Mexican policy was very interesting. According to the article by Javier Blas and Amy Stillman, throughout the years, the Mexican oil company signed deals with the investment banks and oil companies in the U.S. to ensure itself against lower oil prices.
Up to now, the Mexicans received $5.1 billion in 2009, $6.4 billion in 2015, and $2.7 billion in 2016 during the financial crisis, political instabilities, or other price wars that caused oil prices to decrease more than expected levels.
To secure these earnings from oil, the Mexican oil hedge fund also paid $1 billion annually to the investment banks. This year with the beginning of the oil price war, the prices declined rapidly, and the Mexican state oil company received the first payment from the investment banks last month.
According to the agreement, the Mexican oil hedge fund protects the oil price at an average of $49 per barrel for 234,000 barrels a day in 2020. It means that regardless of the oil price, the Mexicans become able to sell 234,000 barrels a day at $49 for Mexican oil export basket per barrel that is equal to $60-$65 per barrel for Brent Crude.
The Bloomberg calculations suggest that the hedge will pay close to $6 billion for this year if the Brent Oil prices remain around $20 per barrel. Therefore, agreeing on a supply cut meant losing this opportunity besides the share loss on the market.
Before the OPEC+ meeting, the Mexican company Pemex was still investing in new drilling new wells. They aimed to double drilling to 423 wells this year and accelerate the development of 15 recent discoveries that happened last year.
According to the Bloomberg data, the investment in exploration rose 11% to $11.1 billion compared to 2019. This policy was another reason for the Mexican government not to comply with OPEC+’s first deal.
Finally, when we look at Pemex’s financial conditions, the situation is highly concerning. In 2019, the company ended the year with $105.2 billion in debt. It is facing declining rates from the credit rating agencies and corruption news continuing to come. The analysts are claiming that 75% of the oil fields are generating loss under these prices. Despite the government effort, the problems remain far away from resolving.
Overall, the Mexican government relies on the oil hedge fund that would help to stabilize its fiscal budget for the end of this year. At the same time, they are trying to keep the oil company operational and protect their shares in the market by avoiding forced production cuts.