Warning: there’s no structure here. Just some stream of consciousness oil market rambling along with some pretty good excerpts from Bloomberg, Reuters, and SocGen. Oh, and there’s a random chart at the end.
Supply. Demand. OPEC. Russia. Shale. Sectarian divide. Geopolitics. Production cuts.
It’s all so complicated.
Only it’s not.
Regular readers are well aware of my views on the crude market.
I’m all for vigorous debate around things that are interesting to talk about. Like how the Sunni/Shiite proxy wars raging in Syria, Yemen, and Iraq play into the supply decision calculus in Riyadh and Tehran. Or like how the Saudis must weigh yawning budget gaps, the necessity of maintaining social order via generous subsidies, voracious demand for the kingdom’s debt (as evidenced by last October’s hugely oversubscribed $17.5 billion bond offering), and the cost of managing the riyal peg against production decisions. Or like how Libyan production plays into things given the country’s ongoing efforts to form a stable government amid incessant power struggles between warring factions. Etc. Etc. Basically geopolitical things.
What I’m not all for is wasting a whole bunch of time talking about US production or the economics behind this or that discrete shale play. The story in the US is simple. Either operators figure out how to curtail their outspend or they go the f*ck out of business. That’s assuming capital markets don’t remain open to otherwise insolvent producers. This whole charade where debt markets, revolvers, and equity follow-ons allow companies to stay in business when prices fall just creates zombies. Until capital markets slam shut, these zombie producers will continue to sow the seeds of the next price decline by starting the pumps back up at ~$55/bbl. It’s absurd. They’re pumping the very same oil that will contribute to the very same supply glut that will ultimately put them out of business if gullible investors ever decide enough is enough with the negative free cash flow. Until that happens, we’ll never get a truly balanced global market. More here.
In any event, one of the things I’ve been saying for quite some time is that OPEC might well choose not to extend the production cut agreement beyond six months. Especially if Saudi Arabia decides that doing so risks helping the Iranians finance the three proxy wars mentioned above. According to an exclusive out from Reuters on Thursday, some “OPEC sources” don’t agree with me. To wit:
OPEC could extend its oil supply-reduction pact with non-members or even apply deeper cuts from July if global crude inventories fail to drop to a targeted level, OPEC sources said.
“If we have full commitment by everybody, inventories will go down. By sometime in the middle of this year, maybe they will go near the five-year average. But that’s if you have 100 percent compliance,” one OPEC source said.
“The question is, by how much will they fall? For that, you have to wait and see.”
“If countries adhere then that would certainly be encouraging,” another OPEC source said, adding that the supply pact could be extended by May if all major producers showed “effective cooperation”.
Well, with all of that in mind, consider as few passages from a pretty good Bloomberg piece out last Tuesday and a few bullet points from a SocGen presentation out Friday evening (note: not all of the SocGen points are consistent with my own take on the market, but the bolded bits certainly are).
While the OPEC members have agreed to curb output for the only the first half of the year, an extension may be needed to rebalance the markets, according to oil ministers from Iran and Qatar.
Oil markets in recent months have been steadied by the promise alone of output cuts by some OPEC and non-OPEC producers. But as the reductions take effect, prices will rise, luring more producers such as those in the U.S.’ shale regions and tempting OPEC’s own members to cheat. That extra supply could trigger a glut all over again.
- It is about more than the barrels
- Although the fundamental impact is very important, the real significance of the agreement is that Saudi Arabia and OPEC have returned to active market management
- This is what put a $50 floor under prices immediately after Vienna. This will continue.
- We expect OPEC to significantly increase its production target for 2H17. We forecast that actual 2H17 production will be 0.5 – 1.0 Mb/d higher than 1Q17
- Not as much as it seems. Global demand will increase by 1.5 Mb/d from 1H17 to 2H17
- The numbers may change, depending on inventories and other fundamentals
- It is critical for OPEC that the oil markets see it is continuing active supply management
- OPEC does not want to cut production too much and push up prices too fast. The risk is that US shale output grows even more quickly than forecast.