Ok, so everyone knows to be skeptical about the OPEC/non-OPEC production cuts, right? I mean come on, we’re talking about an agreement that includes bitter geopolitical rivals here that are currently fighting on opposite sides of multiple proxy wars not to mention at least one direct conflict that’s seen Russian warplanes bomb rebel positions occupied by forces that are overtly backed by the Gulf monarchies.
So no, these agreements will probably not be honored despite the fact that everyone involved could really, really use higher oil prices (that’s especially true for the Saudis who have been blowing through their SAMA reserves and who have cut subsidies and tapped debt markets to plug a yawning budget gap that’s expected to come in at some 13% of GDP this year).
Still, the IEA in all its wisdom is out today with new forecasts which show the market slipping into a deficit in 2017 thanks to the cuts. Below, find their commentary along with the updated visuals.
The final report of 2016 analyses events as dramatic as those that kicked off the year. The focus in January was on $30/bbl oil and the imminent increase in Iranian oil production after sanctions were lifted. In December, we are seeing the first proposed output cut by OPEC since 2008 – and the first deal including non-OPEC producers since 2001 – which marks a major departure from the market share policy followed for the past two years. OPEC’s cut to crude production of 1.2 mb/d almost matches its deliberate production increase of 1.3 mb/d in the twelve months to October (the month on which the OPEC cuts are based), while the non-OPEC group has seen its crude output fall in the same period by about 0.9 mb/d. Meanwhile, following revisions to Chinese and Russian data, we have raised our 2016 global net demand growth number to 1.4 mb/d and that for 2017 to 1.3 mb/d.
Before the agreement among producers, our demand and supply numbers suggested that the market would re-balance by the end of 2017. But OPEC, Russia and other producers are looking to speed up the process. If OPEC promptly and fully sticks to its production target, assessed at 32.7 mb/d, and non-OPEC producers deliver the agreed cuts of 558 kb/d outlined on 10 December, then the market is likely to move into deficit in the first half of 2017 by an estimated 0.6 mb/d. This is not a forecast by the IEA, it is an assumption based on the numbers in OPEC’s 30 November agreement, subsequently reinforced by the non-OPEC producers.
After the first half of 2017, the analysis is complicated by the fact that the proposed cut is for six months, and will be reviewed at the next OPEC ministerial meeting at the end of May. This can be seen as prudent given the underlying uncertainties in the oil market and the global economy but also a warning that production restraint might not be extended. The price curve reflects this with a sharp increase in short-term prices but shows relatively little movement further out. OPEC also appears to be signalling that high-cost producers should not take for granted that they will receive a free ride to higher production. These high-cost producers, who assume that the cuts at the very least guarantee a floor under prices, might think twice before taking the risk of sanctioning new investments.
Clearly, the next few weeks will be crucial in determining if the production cuts are being implemented and whether the recent increase in oil prices will last. For contractual and logistical reasons, we might initially see that the output cuts do not fall neatly into place. The deal is for six months and we should allow time for it to be implemented before re-assessing our market outlook. Success means the reinforcement of prices and revenue stability for producers after two difficult years; failure risks starting a fourth year of stock builds and a possible return to lower prices. What a difference a year makes!