From Export to Import

Goldman’s chief Latin America economist, Paulo Leme, called it unnecessary roughness. He was referring to the Fitch Ratings Agency downgrade for Mexican foreign debt.
Yesterday, Fitch put Mexico’s debt in the same league as Russia and Thailand. That’s BBB. That’s the second-lowest investment grade rating, down from BBB+.
Mexico’s economy has been hit hard by recession. GDP will likely shrink 7.5% this year. Goldman’s Leme disagreed with the downgrade, saying that Mexico has done "…a lot…" to improve its finances. But Leme is missing the point.
If you read Daily Profit, from last Thursday, you already know what I’m about to say. Mexico’s financial problems are not simply due to recession. The bigger issue here is that Mexico’s oil production is declining sharply. Two years ago, Mexico’s Cantrell oilfield was producing 2 million barrels of oil a day. Today, it’s producing less than 500,000 barrels per day.
That’s one of the fastest drops in production on record. And especially during a recession, Mexico simply has no way to make up the budget shortfall that falling oil revenue creates.
*****You can bet Mexico is praying for oil prices to get back to $147 a barrel. But unfortunately, even that isn’t going to help Mexico much. Some oil analysts are now saying that Mexico may not have any oil to export in as little as 4 years.
Right now, 38% of Mexico’s revenue comes from oil. It’s scary to think what will happen in a few years if Mexico loses its oil export money. Because it’s not long after that point that Mexico becomes a net oil exporter. That puts even more strain on its already fragile economy.
To quote George Clooney from one of my favorite movies "O Brother Where Art Thou", Mexico’s in a "tight spot."
*****Third Quarter GDP was revised lower, to 2.8% from 3.5%. Honestly, I can’t think of many positive economic numbers from the last two quarters that haven’t been revised lower. And the funny thing is, stocks respond to the initial number with a rally, and then shrug off the lower revision.
That just goes to show you how much investors are focused on the recovery story.  
Now, I want to be clear that I’m not saying the economic recovery isn’t valid. Even today, the Case-Shiller Index showed a 4th consecutive month of price gains for houses in 11 U.S. cities. Still, it’s important to keep in mind that expectations are high.   
*****Oil prices and economic growth are inextricably linked. As growth expands, demand for oil will return and push prices higher. As oil prices rise, they put a crimp on economic growth.
Right now, it’s expected that the rate of demand growth will outpace production growth in 2010. A Reuter’s poll of 10 oil analysts puts demand at 85.9 million barrels a day, up 1.3 bpd. And global production capacity is 94 million barrels a day.
Non-OPEC supply is essentially fixed at this point, and may be falling. OPEC is the only area that has the ability to boost production.
In other words, there’s not a lot of spare oil capacity. Current oil prices ignore the amount of oil in storage and are focused on demand/supply numbers and the prospect for economic growth. And I’m not sure what could change the perception that oil prices have only upside.
A return to recession might do it, at least temporarily. But the notion that oil markets will be increasingly tight going forward is creeping its way into investors’ consciousness.

To top