This month, Mexico’s legislature passed what could be a game-changer for the country’s economy: energy reform. While President Enrique Peña Nieto is not the first to present plans to free up what has become both a political and financial conundrum for the country, hopes are high that the new reform could be what finally frees up the Mexican energy market.
Peña has plans to reform several major institutions in the country, but the energy sector is the largest given the monopoly the government has had on the sector since 1938. The recently passed reforms have the public support of the IMF and a number of oil companies, and now require approvals from 17 of Mexico’s 32 state legislatures to become a full constitutional measure.
With energy reform comes huge potential for derivatives through new financial tools. Jorge Alegria, Chief Executive of the Mexican Derivatives Exchange (MexDer) spoke to us about just how prepared the financial community is, and the potential impact energy reform will have on the country’s fortunes.
What does the potential energy reform mean for Mexico’s financial markets?
Let’s look at what has happened in the equity markets of Spain and Brazil, for example. We cannot ignore that a good portion of their growth came through the different schemes of allowing public and international investment in the energy sector. It cannot be pinpointed to just one company or firm. For example, in Brazil, all the activity that was generated over the Petrobas deal was huge. There was investment around the main projects, which of course generated greater economic activity.
So, these days, even with all the connectivity, the energy reform means a lot, however it does NOT necessarily mean there will be an initial public offering (IPO) as there was in Brazil. But it does mean there will be a big generation of new financing needs, both for Mexican and financial entities, which will all be looking to participate in the new and emerging businesses.
Here at the Mexican Bolsa Group, (Groupo BMV) we are ready to be an official channel and agent to help these new companies in the process of raising the equity and resources needed to aid the expansion we are really expecting to see in this sector. New energy reform in Mexico, as with any country, presents a huge amount of opportunities and potential. Therefore there will need to be an efficient method of handling new resources.
Also, it is important to bear in mind that the population in Mexico is very young. The existence of a vibrant, pension-funding industry is important. It is critical and also convenient to the growth of these resources. The pension funds are also looking for new projects. People want to participate and be a part of what will be big change in the country.
Will energy reform in Mexico impact the Mexican Derivatives Exchange and its derivatives offerings?
The energy sector in Mexico, after having been for so many years controlled by the government, has created an impasse in regards to the need of mechanisms of hedging. How so? Well, as of today, a lot of those prices are fixed and a lot of them are calculated by a government agency.
So in many ways, there have been no strong incentives for hedging. Now, in one of the clear developments, or you could even say consequences, will have to now offer market prices for several energy products. Not only oil, but gas and also the electrical power. And, the necessity for efficient tools for managing these new risks that will be arising in the Mexican sector, will also present a huge opportunity in the Mexican industrial sector. Also, this will present a very good opportunity to leverage our alliance with CME Group. Currently here at MexDer, we are able to offer CME Group products. But, the prices don’t move much and therefore get very little use. Now, this will change and there will be more efficiency and more competitors.
When you have an open pricing mechanism for energy products, there is significant opportunity for MexDer to create derivative products, as well as make them available to the Mexican industrial sector for hedging in the a new market environment.
What type of growth do you see for Mexico’s financial markets as energy reforms are passed?
To put a number on this is not easy. We definitely see growth and more ahead. Even without the energy reform, the Mexican financial markets have been steadily growing. Granted, it is a small sector when compared to the country’s overall economy. For example, the Mexican Stock Exchange (Bolsa Mexicana de Valores. BMV) is roughly about 40 percent of GDP in terms of value. Where in many countries, it is only 2-3 times as big. So there is a lot of potential when you simply compare the market cap with the gross domestic product (GDP) of the country.
The additional reforms will help to have a capital market much more in line with the Mexican economy. The growth potential is significant when you look at the market. Today, we are experiencing having derivatives activity that can easily be doubled or even tripled over the next five to seven years, just based on the size of the current underlying markets alone.
Mexico is known as a manufacturing economy. Will new energy help competition, and if so, how?
The manufacturing sector in Mexico is now starting to recover. The past few years have seen a clear recovery in the sector. We [Mexico] compete with China and it hasn’t been easy. We are still today below 2008-levels due to the global financial crisis. Also, it is not only about prices, but also about quality. The Mexican manufacturing sector has distinguished itself for the quality it produces. That kind of manufacturing materials and sector products are clearly related with certain necessities energy companies will require. One important factor, for example, is cost of transportation. Shipping to North America will be less costly from Mexico, as opposed to shipping to North America from mainland China and so on.