Just before the November 30 Organisation of Petroleum Exporting Countries (Opec) conference, the oil market “can’t find direction” and “prices are in a holding pattern”, said some observers. Previously, it was a foregone conclusion that Opec and non-Opec would extend their production cut deal of 1.8 million barrels a day (mbd) to the end of 2018. Only recently is this expectation in doubt.
The producers’ pact has done wonders by raising prices from less than $30 (Dh110) a barrel early in 2016 to over $60 recently. Perhaps the appreciation in recent weeks has been above expectations, led by renewed geopolitical risks over tensions in the Middle East and unresolved problems in some producing countries such as Nigeria, Libya and Venezuela.
If the aim of the producers’ Declaration of Cooperation was to reduce the oil stock overhang, then we have a success story. OECD commercial stocks reduced from the five-year average of 380 million barrels (mb) in February 2016 to 154 mb in September 2017. But there is a long way to go and production cuts won’t remove the stock overhang even by March 2018, as they were undermined by rising production outside the Opec pact, especially in the US.
With the exception of China, global stocks have gone down in every other region, including oil stocks on tankers. The outlook for 2018 supports the continuation of the production restraint as non-Opec production is expected to increase by just over 1 mbd, according to Opec and 1.4 mbd as per IEA. Compared to a demand growth of 1.51- and 1.3 mbd respectively, there is little room for any of the producers in the pact to increase production, especially as compliance is not 100 per cent.
And there are the uncertainties of potential Nigerian and Libyan production increases. Mind you, if the IEA figures are right, then there is a danger stocks could rise again irrespective of any Opec deal.
The price of Brent crude is $63.47 a barrel, well above the previously expected price band. This perhaps is giving the wrong signal to some participants in the production cuts that the job is done and there is no need to extend further.
Let it be clear that some of the price appreciation, perhaps most of it, is because of the impression the cuts would be extended. It was premature to give this impression and which is now a burden on the upcoming meetings on November 30.
It is reported that Russia is considering a delay on the decision to extend the cut as its oil minister implied that the decision is far from urgent. Even President Vladimir Putin’s support for extending cuts to the end of 2018 was “prefaced by a reminder that November was too soon to decide”.
At the same time, Gazprom, a major Russian oil company is said to be against any extension due to new projects which it intends to start in 2018. However, other Russian companies, including the largest Rosneft, are not against the extension.
Russia’s economy minister Maxim Oreshkin recently commented that “because of the Opec deal, we have a negative direct impact from oil production, as well as indirect effects related to low investment activity due to production limits.” He is reflecting the views of some that lower oil prices could be more beneficial for the Russian economy to maintain its competitiveness, its drive to diversify, and its desire not to give advantage to renewable energy investment.
While these ideas could be argued endlessly, low oil prices have never been advantageous to any producer and not even to consumers in the long run. The question is we have not been told the level of low prices desired to achieve advantages for the Russian economy.
Russia’s decision is unlikely to be made by its oil companies. The government knows well that walking out of the deal will send oil prices tumbling and lose the recovery achieved this year. At the same time, the political implications for Russia would be immense with respect to the loss of credibility.
There is, however, a middle of the road solution. Saudi Arabia’s energy minister Khalid Al Falih has said that he is seeking consensus and wants a clear decision in the upcoming meetings, including “an extension of some sort” and that he believes Russia will be on board.
While the extension of the cuts to the end of 2018 is now uncertain, the participants in the Declaration of Cooperation can announce an extension but leave the question of its extent to a later date.
Prices may fall but not to unacceptable levels. And perhaps the market will return to fluctuate within the price band of $50 to $60 a barrel.