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Brazil watches the polls

The South American country will choose a new president in 2018, with major ramifications for the oil industry

Presidential politics will top the agenda for energy investors in Brazil in 2018. After one of the most tumultuous periods in the country's history, marked by an economic crisis and an epic corruption scandal that forced a president from office and saw dozens of politicians and business executives jailed, weary Brazilians will elect a new president in October.

A raft of market-friendly energy reforms pushed through by president Michel Temer are at stake. The pre-salt, one of the global oil industry's major prizes, has been opened to international oil company control for the first time. Stiff local-content rules, blamed for helping to drive delays and lift costs on deep-water projects, have been eased for new contracts, and there's talk of extending the policy to older deals. A packed schedule of new oil tenders is taking place for the first time in years, including auctions for promising pre-salt. Petrobras has been given more autonomy and made progress rebuilding its finances.

The reforms have helped draw investors' eyes back to Brazil, but they're vulnerable in 2018. Temer is deeply unpopular, having been implicated himself in the Lavo Jato corruption scandal, and won't be running again to solidify his reforms. That has left the field wide open.

Among the leading candidates is a familiar name: Luiz Inácio Lula da Silva. Lula, a populist who led the country during the commodity-driven economic boom, tightened the government's control over the oil industry and Petrobras, instituting many of the measures that Temer has swept away. Lula showed a pragmatic streak while in office, so it's possible he would leave the energy reforms in place considering the oil market's new reality, but his victory would worry oil investors.

Lula's path back to the Palácio do Planalto has been complicated by a corruption conviction. If that conviction is upheld, he'll be barred from running, though it would put the popular politician in a position to act as a kingmaker.

2.25m b/d—Petrobras's 2018 oil output

Brazilians, fatigued by years of recession and scandal, could just as likely turn away from the familiar and choose an outsider as their next leader.

Jair Bolsonaro, a right-wing populist dubbed—predictably—"Brazil's Donald Trump" for his unorthodox policy positions, is making an unlikely run for the presidency. Bolsonaro, who has surged in the polls, would be a wild card for investors. Despite decades in Brazil's Congress, his economic views aren't well formed. He has argued that China shouldn't be allowed to invest in strategic sectors like oil. That would create significant uncertainty for Petrochina, Cnooc and Sinopec, all of which are major investors in Brazil's deep waters. He has also floated the idea of privatising Petrobras, which would bring far-reaching change to the oil industry.

What little faith Brazilians had in their political and business elite has been swept away by years of crisis, creating more fertile soil for fringe candidacies like Bolsonaro. Political risk will be at the fore in 2018.

It will be an important year for Petrobras's recovery. On the operational front, five new deep-water projects are due to start producing—Berbigao, Lula South and Buzios 1, 2 and 3. While it will be a busy year for deploying new platforms, don't expect a major boost to production in 2018. The platforms will take time to connect new wells and ramp up output, while Petrobras continues to see significant declines from its mature fields. Oil output should rise slightly from around 2.15m barrels a day at the end of 2017 to around 2.25m b/d by the end of 2018.

At the same time, Petrobras's management will try to keep rebuilding the firm's financial foundation. To meet a $21bn divestment target, Petrobras will be spinning off its distribution business for an initial public offering, selling more than 100 offshore and onshore oilfields, gas pipelines and international downstream assets. The company wants to bring its leverage ratio to below three, which would help win back its coveted investment-grade credit rating.

While these are all important moves, Petrobras and the broader oil industry's future will be shaped by politics more than anything in 2018.

Justin Jacobs is Americas Editor at Petroleum Economist

This article is part of Outlook 2018, our annual book looking at energy market trends for the year ahead. To purchase a copy, click here

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