Volumes and Issues

 

As we approach the end of the year, Mexico looks like a much different market than it did just 12 months ago. The country is increasingly home to non-Pemex retail stations bankrolled by some of the industry’s largest players. Significant developments in rail and transloading have, at least in part, answered the logistical questions that were holding investors at bay. Additionally, the country has improved its tax policies, providing both increased transparency and stability.

What does it all add up to? Huge volumes of gasoline and diesel flowing from the USGC to Mexico by vessel, rail and truck. So, to close out the year, I thought we’d dig in to one of the most common questions I get about Mexico: What factors have the potential to derail the country’s energy reforms?

 

Supply Resurrection

The state of the Pemex refining system is precarious, to say the least. Mexico’s government-owned oil company is currently utilizing just one third of its operating capacity. Years of neglect in capital expenditure have severely crippled the Mexican oil giant’s refining assets. Are the issues curable? Of course. But it will take time and money, and given that cash generation the current priority in Mexico, Pemex repairing its infrastructure isn’t likely.

 

Demand Shrinkage

Mexico’s demand for transportation fuels has grown modestly in recent years. As the economy continues to improve and the country begins to feel the full impact of price liberalization (i.e. cheaper and more reliable fuel), most experts expect a steady increase in consumption. Even a moderate pull back would not have a material impact on total volumes.

 

Crime & Theft

Economically speaking, pipelines have always been the preferred method of delivery for crude and refined products. You simply can’t beat the returns their scale affords—in the U.S., anyway. In an environment where 10-20 percent is skimmed off the top through piracy, however, pipelines can’t offer that same economic draw.

Today in Mexico, rail and truck can provide competitive economics based on their ability to deliver volumes with much greater certainty of the customer getting 100% of their purchase. Security may add cost, but with a range of options available to ship product, the market will pursue the path that yields the highest dollar return.

 

NAFTA Reform

Few insiders on either side of the border (no offense, Canada, but this is about Mexico) expect the NAFTA renegotiations to introduce policies that will hinder the trade of energy-related products between the countries. After all, both sides need the trade. So what are the chances that NAFTA reform will derail the fuels trade between the U.S. and Mexico? Not likely.

 

Regulations / Taxes

The different agencies put in place to oversee Mexico’s energy reforms are operating in a transparent manner. Hundreds of import permits have been issued, but other types of permits have been harder to come by (environmental, construction, easement). The government has also tinkered with tax rates to control pricing and manipulate the market, to disastrous results.

The ability to obtain proper permits, and having better certainty around taxes, are vital to a well functioning marketing, and these issues should not be overlooked. These points may require more time, but in the end, generation of tax dollars requires products to flow.

 

The Election

We have previously discussed the market’s apprehension about Mexico’s upcoming presidential election. Given the reform’s status as a constitutional enactment, however, the threat of total repeal or significant revision is unlikely. Could the outcome of the election complicate the market? Of course, agencies could restrict or slow the process for permitting and approval. But there’s one thing to remember: The gates are now open, and the force behind the volumes flowing into Mexico is remarkable. Put simply, the upcoming election holds some uncertainty but the threat of derailing the energy train is unlikely.

In summary: we consider it prudent to understand, weigh and price the associated risks of participating in Mexico. There are many issues that have the potential to affect the fuels trade to some degree, however, we do not see any significant threats on the horizon. As time passes the risks should decrease but with that transition towards stability will come greater competition and lower returns. Interested in getting in on the ground floor? Contact our international markets team today!