Oil and gas slump brings New Mexico a negative S&P rating outlook

Methane gas is flared just near Carlsbad, New Mexico, in 2019. The state's dependance on oil is proving to be a fiscal weakness as prices sink.
Register now

New Mexico's rating outlook from S&P Global Ratings was revised to negative from stable Tuesday. Its AA rating was affirmed.

The lower outlook “reflects our expectation that New Mexico will have a sizeable structural deficit over the next two years due to the decline in oil and gas prices and production, which creates at least a one-in-three chance we could lower the state GO rating in the next two years,” S&P analyst David Hitchcock noted in the report.

The drop in oil prices coincides with widespread closure of businesses and public facilities across the world to reduce the spread of the COVID-19 virus.

About 34% of New Mexico's general fund revenue comes from oil and gas production, analysts noted. About half of that comes from direct severance taxes and mineral rents and royalties deposited in the general fund, and about half indirectly from gross receipts tax on oil and gas activity.

“As a result, the state has historically experienced cyclical revenue trends,” Hitchcock wrote. “Recognizing this, the state has generally budgeted to build up large reserves during periods of prosperity for use during downturns.”

During the last downturn that began in mid-2014, the state depleted its reserves and needed multiple special legislative sessions to adjust its budget.

“In recent years, however, before the current pandemic, strong Permian basin shale oil and gas production allowed the state to raise spending and at the same time build up what we view as large reserves,” Hitchcock said.

S&P also revised the outlook on New Mexico State Transportation Commission's senior lien transportation revenue bonds, rated AA-plus, to negative from stable. S&P’s ratings criteria limits the highway revenue bonds to no more than one notch above the state's general obligation rating. The outlook change does not affect the lower-rated subordinate-lien highway revenue bonds rated AA.

The state expects to produce a revenue forecast in mid-June, shortly before an expected legislative special session called to make budget adjustments. The state believes that the outcome of the special session will enable it avoid fully depleting reserves, Hitchcock said.

“However, in our view the oil and gas market will remain weak for several years, and we believe that ongoing budget pressures may persist for some time,” he said.

“General fund reserves rebounded from what we considered minimal levels in 2016, despite midyear budget cutting and one-time budget actions during the oil and gas downturn, to levels we considered strong at fiscal ends 2018 and 2019,” he said.

The state had projected strong reserves in 2020 and 2021, but now reserves could be depleted in fiscal 2021 without expected budget adjustments to be made in the special legislative session.

For reprint and licensing requests for this article, click here.
Ratings Coronavirus State of New Mexico New Mexico State budgets