Fitch's Pemex Rating Upgrade: A Misread of Mexico's Fiscal Vulnerabilities?

Fitch Ratings' recent upgrade of Petróleos Mexicanos (Pemex) to BB from B+—a two-notch jump—has sparked debate among investors and analysts. On the surface, the move appears to signal confidence in Mexico's government's ability to support its ailing energy giant. But beneath the headline lies a more complex story: one of fragile fiscal fundamentals, opaque financial engineering, and a government grappling with its own credibility crisis.

The Fitch Rationale: A Silver Lining or a Mirage?

Fitch's upgrade hinges on two key factors: a $12 billion P-Cap transaction and a revised assessment of government support. The P-Cap, a novel financial instrument structured through a Luxembourg-based entity, allows Pemex to access liquidity by pledging U.S. Treasury bonds as collateral. This move, Fitch argues, improves Pemex's short-term solvency and reduces its exposure to debt maturities in 2025 and 2026.

The agency also revised its “Precedents of Support” for Pemex to “strong” from “not strong enough”, citing the Sheinbaum administration's constitutional overhaul, which reclassified Pemex as a public state enterprise with a mandate to prioritize energy sovereignty over profitability. Fitch further increased the Overall Linkage Score between Pemex and Mexico's sovereign rating to 30 points from 25, suggesting a stronger perceived connection between the two.

However, these moves rest on a fragile foundation. Pemex's total debt remains near $100 billion, with interest expenses of $2 billion per quarter—a figure that exceeds half of its quarterly EBITDA. Meanwhile, Mexico's public debt-to-GDP ratio has risen from 44.8% in 2018 to 51.4% in 2025, and the government's fiscal plan relies on optimistic assumptions: $65/barrel WTI prices in 2025, flat oil production at 1.75 million barrels/day, and $12 billion in annual capital expenditures.

Mexico's Fiscal Health: A House of Cards?

The credibility of government support for Pemex cannot be divorced from Mexico's broader fiscal health. The country's 2025 Economic Package projects a deficit reduction from 5.9% of GDP in 2024 to 3.9% in 2025, but this relies on a 1.6% GDP growth forecast—a stark contrast to the 2.3% the government claims. With real public spending expected to fall by 1.9% and investment expenditures dropping 14% annually, the fiscal gap is widening.

Compounding this are external uncertainties: U.S. President-elect Donald Trump's proposed tariffs on Mexican exports, potential renegotiation of USMCA, and stricter immigration policies. These could erode Mexico's manufacturing sector (which accounts for 90% of exports) and reduce remittances—a critical income source for millions.

Moody's, which recently downgraded Mexico's sovereign outlook to “Negative”, warns that institutional weakening—including judicial reforms and Pemex's reclassification—risks eroding checks and balances. S&P, while maintaining a BBB rating, has also flagged “potential fiscal challenges” if extraordinary support for Pemex and CFE (Comisión Federal de Electricidad) materializes.

The P-Cap: Creative Accounting or a Sovereign Risk?

The P-Cap transaction is a textbook example of off-balance-sheet financing. By channeling funds through Eagle Funding LuxCo, Pemex avoids direct government guarantees, preserving the illusion of fiscal prudence. But this opacity raises red flags.

For starters, the $12 billion in liquidity is contingent on Pemex's ability to service repo financing for U.S. Treasury bonds. If oil prices drop below $60/barrel (as modeled by Fitch), or if production declines further, Pemex could face a liquidity crunch. Worse, the Mexican government may still be forced to step in, blurring the line between corporate and sovereign risk.

Implications for Investors: Diversify and Hedge

For investors, Fitch's upgrade is a double-edged sword. On one hand, the improved rating could temporarily reduce Pemex's borrowing costs and stabilize its access to capital. On the other, it risks masking long-term vulnerabilities.

• Energy Sector Investors: Prioritize projects with clear revenue streams and legal protections, avoiding those reliant on Pemex's uncertain future. The recent mixed contracts allowing private investment in exchange for 40% equity stakes are a step forward, but regulatory clarity remains a hurdle.
• Sovereign Bondholders: Consider hedging against currency risk and diversifying emerging market exposure. Mexico's sovereign rating is under pressure, and a downgrade could trigger capital flight and a peso crisis, as seen in Brazil's 2015 experience.
• Equity Investors: Monitor Pemex's stock price (which has historically been volatile) and Mexico's 10-year sovereign bond yield as barometers of investor sentiment. A widening spread between Pemex's cost of debt and Mexico's yield could signal spillover risks.

Conclusion: A Rating Upgrade, Not a Fix

Fitch's upgrade of Pemex is a short-term salve, not a long-term solution. While the P-Cap provides liquidity, it does not address declining oil production, institutional weaknesses, or geopolitical headwinds. For investors, the key takeaway is caution. Mexico's government may be willing to support Pemex, but its ability to do so is increasingly constrained by fiscal limits and external pressures.

In the end, Fitch's optimism may prove misplaced. As the old adage goes: “The market can stay irrational longer than you can stay solvent.” For now, the Pemex saga is a reminder that credit ratings are not infallible, and the true test of Mexico's fiscal health lies in the years ahead.