We upgrade the Pemex family of bonds to Buy from Hold, given the Q3 results confirm a slight reversal of the downward production trend. So long as the company continues to increase its production volumes and the government maintains its financial support, we think the rating agencies will keep Pemex at investment grade.
We still believe the company’s business model is flawed, and it is not lost on us that Pemex remains the highest-levered company among global major oil producers. We are also aware that the government has limited fiscal room (as per the 2020 federal budget projections), which will limit its ability to support the company. And we still believe that the solution for Pemex lies in restarting the farm-outs that were an integral part of the previous administration’s Energy Reform and to which the current government is opposed.
Pemex’s bonds tend to offer higher yields than its regional peers, but there is a good reason for this. As a comparable, Petrobras continues to improve operationally and financially, but Pemex remains a company that will have to continue to “prove itself” quarter on quarter, and will remain heavily dependent on government support given that it is not profitable in and of itself.
However, the production increase has significantly lowered the spectre of a downgrade to junk by a second of the three major rating agencies, and we believe Pemex now offers attractive carry, particularly compared with its regional peers. Moreover, it is also true that the company is on a better footing today than it was at the start of the year.
We maintain that Pemex still has a long way to go before it can be considered a good credit, quality-wise, and it remains vulnerable to external shocks (both in the industry and/or with Mexico’s public finances. However, this upgrade is based on two specific factors:
- Our changed view that the rating agencies will not downgrade Pemex in the next 9-12 months; and
- Our view that Pemex is now a better and safer carry trade than it was at the beginning of the year.