“It’s All About Optics”: For OPEC, 6 Months Ain’t Gonna Cut It

If you’re among those who think that maybe it wasn’t a great idea to raise the production cut extension bar to 9 months from 6 months, you’re not alone.

Earlier this month a joint presser in Beijing with Khalid Al-Falih and Alexander Novak produced these key headlines:

AL-FALIH: END OF DEAL SHOULD BE 1Q 2018
RUSSIA, SAUDI ARABIA FAVOR EXTENDING OPEC DEAL FOR 9 MONTHS

Well obviously, the market immediately priced that in which means that now, a 6-month extension is no longer good enough.

In fact, with WTI sitting a 1-month high, anything less than a 9-month extension at this week’s OPEC pow wow will likely be cause for a selloff.

Consider this out Tuesday from Citi:

Citi expects a 9-month extension to the current OPEC/non-OPEC producer deal and with it an associated Brent oil price of $60/bbl+ by year-end. Positioning data as of Tuesday 16th May indicate that the oil market is going into this meeting without a long bias, even when accounting for the $2-3/bbl increase since the 16th, and this leaves scope for Brent prices to move to a $55-60/bbl range if OPEC meets and/or beats market expectations. This would likely involve OPEC/non-OPEC producers agreeing to a 9-month extension or cuts to be deeper than the existing 1.8-m b/d (for at least 6 months). The Saudis have communicated clearly to the market that they and almost all others in OPEC including Iraq are open to a 9-month extension. OPEC have likely learnt from history that 1) cutting output in 1Q’18 is important as it captures refinery turnarounds, particularly in the US, and helps offsets seasonal oil stock-builds and 2) disappointing market expectations that are based on OPEC communications can lead to sharp price falls.

The Saudis have moved expectations towards a 9-months market consensus and hence a 6-month extension is likely to be punished. Credibility over compliance in 1Q’18 is a unknown for now, as is the differing physical market impacts between a 6- and 9-month extension, but it is all about optics for now. After Khalid Al-Falih’s comments over the weekend that “We think we have everybody on board” and “Everybody I’ve talked to indicated that nine months was a wise decision” It would appear that a 6-month extension would be a backtracking of sorts. Even though our balances show that a 6-month extension would tighten 2H’17 significantly, it is unlikely to matter for spot oil prices over the next month. With positioning still relatively light on the long side, we would expect prices to trend back to ~$50/bbl for Brent, but not much lower, before rallying again in 3Q’17 on the back of stronger fundamentals.

Oh, and this just hit the wires: