Latin America oil plays rocked by oil price rout, virus

Latin America's bold plans to tap deepwater, unconventional and heavy oil reserves — already under pressure by coronavirus in key demand markets — face an even greater challenge from this week's oil price crash.

Ice Brent crude futures prices plunged by more than 20pc today to a four-year low, after Opec and its Russia-led allies failed to strike a deal to extend production restraints late last week. Saudi Arabia then slashed its April prices in a potential battle for market share.

The oil price blow, coupled with enfeebled local currencies and a concentration of oil activity in state hands, is now cascading through Latin America, where commodity exports — mostly oil — comprise the bulk of foreign earnings. Likely spending cuts at a time of social upheaval across the region threaten political stability, further discouraging investment.

Depending on their duration, lower oil prices could decelerate upstream growth in Brazil, the region's top producer. The non-Opec country was already grappling with virus-hit Chinese demand before the oil price collapse. Prices are now at or below the bottom of the breakeven range of $35-$45/bl for developing giant pre-salt reserves that anchor Brazil's growth plans, impacting state-controlled Petrobras and its foreign partners.

Petrobras may now be forced to revise its $75.7bn business plan for 2020-24, which is based on a price assumption of $45-$50/bl.

The company says it is "still premature to make projections about possible structural impacts…because the intensity or even the duration of the price shock is not yet clear."

In a separate note today, Brazil's mines and energy ministry highlighted the long-term nature of investments, suggesting that the industry will weather the current volatility.

Fellow non-Opec producer Mexico is more vulnerable than Brazil because of its stagnant production, led by state-owned Pemex. The government's significant hedge program that locked in 2020 crude prices at $49/bl is looking optimistic.

Amid confusing policy signals from the government, foreign companies that entered Mexico's oil patch during a brief interlude of upstream licensing were already thinking twice before investing beyond contractual obligations. Tepid commercial conditions now threaten to erode boardroom sentiment even further.

For Argentina, development of the Vaca Muerta shale formation had been stalled for months because of policy uncertainty under the new left-leaning government. The odds of a reset are now longer because of sharply lower oil prices. In a 6 March earnings conference call that preceded the price crash, state-controlled YPF chief executive Daniel Gonzalez warned that "with a Brent below $50 (per barrel) it is difficult to make an investment decision in a brand new shale development."

Silver lining

On the upside, Latin America is a net importer of refined products, so the oil price collapse will reduce the bill for gasoline and diesel procured abroad, even if some of the benefit is eaten up by currency depreciation. This should help to ease politically sensitive price pressure at the pump.

For Argentina, the lower prices abroad close a gap with government-controlled domestic prices across the energy value chain, helping the new debt-strapped government to reduce subsidies. Among others that will benefit are Chile and Central American and Caribbean countries that produce little or no oil of their own.

But for producers, whatever price benefit is derived on the products side is outweighed by lower crude export revenue and capital investment cuts. This is the case in Colombia, where oil production is stagnant. If oil prices fail to rebound, a hard-fought industry campaign to launch pilot shale projects might struggle to move into a development stage that is seen as critical to shoring up reserves.

Ecuador, which left Opec in January, is among the Latin American countries most reliant on oil for public spending. Depending on the duration of the lower-price scenario, state-owned PetroEcuador's plans to release more of its heavy and medium crude for spot sales through 2024 as oil-backed loans expire will not yield as much revenue as the government was hoping. But Ecuador's official use of the US dollar helps to soften the blow of oil price volatility by cutting out currency risk.

Oil production and exports in Venezuela, Latin America's sole Opec country, were already struggling against escalating US sanctions before the virus hit demand in its main Asian markets. For the embattled government, rampant illegal gold mining and sales abroad of central bank gold could serve as an informal partial hedge against the oil price drop, as investors turn to the precious metal as a refuge from the maelstrom.

Latin America's newest oil producer, Guyana, could fall short of windfall revenue forecasts for its new deepwater output, the volatile backdrop for 2 March parliamentary elections whose official results are still uncertain.

By Patricia Garip