Mexico City — A dramatic drop in oil prices and a depreciation of Mexican currency are extreme conditions that call for a change in the strategy of President López Obrador's administration in the energy sector, sources said Monday.

Joint venture contracts known as farm-outs are among the easiest, quickest ways to not only keep the finances of Pemex, the state-owned oil firm, afloat, but also to reach the desired crude production the government wants.

The Mexican export crude mix fell over $10 on Monday to $24.43/b amid the worst day for international prices since the 1991 Gulf war, while the Mexican peso dropped 3.4% to 20.78/$1. The currency had previously fallen to almost 22/$1. In response, the Bank of Mexico increased the notional amount of its hedging program by $10 billion to stabilize the price to a total of $30 billion.

Despite the drop in prices, Mexico's finances are covered in the short term through hedges and a stabilization fund, said Marco Oviedo, chief economist for Mexico at Barclays Capital in New York. However, the country's budget for 2021 could be at risk if the price stays low, said Oviedo in a phone interview on Monday. Pemex contributes to around 17% of the government's annual budget.

Mexico announced in January it had secured a hedge for an undisclosed portion of its exports at a price of $49/b, the same as estimated in the federal 2020 budget, in what is considered the largest oil hedge among Wall Street banks. In recent years, the hedge was worth roughly $1 billion covering up to 300 million barrels of crude.

But if crude prices remain below what is estimated in the budget for long, many wells Pemex drills will become unprofitable and the state oil firm will have to reconsider its drilling plan and its investments, Oviedo said. On average, the breakeven price for Pemex is around $30/b, he said.

"A company acting under normal profit-oriented policies, would typically stop producing at certain wells if it became unprofitable for any given reason, but Pemex does not act like that, and continues drilling only to keep market share and production levels," said Pablo Zarate, managing director at FTI Consulting in a phone interview on Monday.

It is important that Pemex be agile and manage its portfolio in a strategic way in order to not lose money. The government needs to show it is fully understanding the complexity of the situation and how serious the global energy crisis is, Zarate said.

"This should be an incentive for the government to go back to schemes that can bring fresh capital and the technical know-how to ramp up production like farm-outs," said Marco Cota, CFO at Mexico-based consultancy Talanza Energy.

The new administration decided in 2019 to strengthen the situation of Pemex, once a monopoly in the country, and halted new investments from the private industry that were allowed during the previous administration after an industry reform, including oil rounds.

"The appetite shown for Cardenas Mora, Ogarrio and Trion are good examples of the interest that big global firms have for fields that offer long-term resources in exchange for long-term investments," Cota said.

Cardenas Mora, an on-shore field located in the Southern state of Tabasco, is jointly operated by Pemex and Egypt-based Cheiron Holdings. Ogarrio is located in the port state of Veracruz and is jointly operated between Pemex and Germany´s Wintershall DEA. Trion, 200 km off the coast of border state Tamaulipas, is operated by Pemex and BHP Billiton of Australia.

The government is expected to present a set of investment projects in the energy sector this month after delaying it for several months. The projects, which will allow private capital to participate, are said to be worth roughly $100 billion.