John Hall / Alfa Energy:
OPEC and NON-OPEC Bond - Market not Convinced
Delegates at the Opec meeting in The 174th Meeting of the OPEC Conference, Vienna. The Conference decided that countries will strive to adhere to the overall conformity level of OPEC-12, down to 100%, as of 1 July 2018 for the remaining duration of the above mentioned resolution. Market reacted Friday closing with Brent Crude: UP US$2.50 at US$75.55 per barrel and WTI: UP US$3.04 at US$68.58 per barrel.
The 174th Meeting of the OPEC Conference The 7th. OPEC Seminar and the 4th OPEC - Non OPEC Meeting Vienna, Austria, 20-23rd. June, 2018.
Crunch point for OPEC, with decisions to be made. Many would have written the organisation off but the bond with Russia has strengthened and so too has the credibility of OPEC.
At the Press Conference today, following the Meeting, HE Suhail Mohamed Al Mazrouei, Minister of Energy & Industry of the United Arab Emirates and Head of its Delegation,
announced that the Conference had agreed that, as compliance towards the cut in OPEC output of 1.2mbpd, agreed with effect from December 2016, had been exceeded
by 50%, that OPEC would correct the imbalance and reduce compliance from 150% to 100%. Now, the overall cut, including non-OPEC, was actually 1.8mbpd but there was
some uncertainty that the over compliance covered the full 1.8mbpd and not just the 1.2m. So, taking the position in May, we understood that OPEC would put back around 900,000bpd in to the market.
I asked Mr Al Mazrouei how they would apportion the volumes to be put back across the members, bearing in mind that those who had technically created the over compliance couldn’t produce their quota anyway. This same question was asked several times afterwards as the answer was not conclusive and we were led to believe that OPEC would deal with it! I also suggested that as OPEC was monitoring market figures, it should also build pricing in to the equation but this suggestion was rejected. OPEC does not look at price. Immediately after the Press Conference ended, the oil price moved upwards, reversing the down ward trend of $1.5 the night before. The market had expected more and responded accordingly. This is not what OPEC wanted and if higher oil prices continue to prevail unchecked, one can almost say that $100 could be reached unless further action is taken quickly.
Even though this was the result of the OPEC Conference today, there will be a meeting of non- OPEC Members tomorrow and they will no doubt have to sign up to this agreement but, if not, the Declaration could be placed in jeopardy. I think this is unlikely but perhaps the Russian delegation may think otherwise, once the impact on the market is known.
Traditionally, in the run up to these meetings, we have depended on the gossip being leaked out by various delegates, pushing out their own aspirations. This time it was different.
The 7th. OPEC Seminar was rolling
along well through the second day.
Although billed to appear on the first
day, neither the Saudi nor the Russian
Ministers appeared. Perhaps, they were avoiding the media or simply locked away putting the deal together? The Russians had already said that another 1.5mbpd could be put back in to the market, but nothing had come from the Saudi camp. Then during the morning, on 21st. June, we were promised a surprise, an unscheduled interview with the Saudi Minister, Mr Khalid Al-Falih.
He was relaxed in his manner and was satisfied that the strategy over the last eighteen months had worked well and brought the market back in to balance as shown in the attached and following charts.
Supply and demand have come in to
balance while the stock overhand has
fallen in to alignment with the five year average. So far, the strategy has
worked well although looking ahead
plans need to be put in place to
maintain the position. When asked about the prospects for the future, he explained that by the end of this year, there would be a shortfall of 1.6 to 1.8mbpd, more or less in line with the Russian figure given out earlier of
He also made it clear that there would need to be group meetings before any firm decision could be made and warned that any increase in output would not be immediate. It takes time to ramp up or cut back output.
Nevertheless, during this informal dialogue he made it clear that something would follow. Furthermore, he went on to say that OPEC was equally concerned when the price was either too low or too high and that producers and consumers needed to have confidence in OPEC.
This was a completely new dialogue
and one that has not been readily aired before. The strategy has worked so far and now seems to be the right moment to put together the long-term plan. OPEC has always tended to lurch from one meeting to the next, forever putting of a decision until the next time but now that the organisation is actually being run as a business with some serious forward thinking in development.
One can argue that once the objective
has been achieved, OPEC and non-
OPEC producers will fall away and
switch to their own agendas, but right
now, I don’t think that will happen. Russia will be in there for the long term and with Saudi and Russia leading cohesively, the rest will somehow follow or be pulled along.
With fundamentals supporting the
market while monitoring geo-political tension, namely the announcement from the US that President trump will be pulling out of the Nuclear deal agreed with Iran and imposing sanctions and
forcing Iran to cut output. With the price around $60 this would have been satisfactory for the market but since the announcement prices have risen further closer towards $80, which in my view, is higher than OPEC had wanted and the market had planned for.
Furthermore, it is unfortunate that President Trump supposedly asked OPEC, via Saudi, to increase output having set the scene himself for higher oil prices by pulling out of the nuclear deal with Iran. Yet, if Saudi is seen to be following the US directive, there will certainly be dissent from OPEC members, namely Iran, Iraq and Venezuela. However, fundamentals are playing a strong role and no one inside or outside OPEC can dispute the need to increase output anyway.
The Libya domestic strife has worsened in the last few hours although Libya, like Nigeria is outside the quota arrangement. Venezuela shows no sign of recovery while Iran will be forced to cut back due to sanctions, taking perhaps 500,000 bpd out of the market.
Thanks to the shortfall from existing members, the over compliance on the Agreement to cut indicated a month ago that OPEC could put around 1mbpd back in to the market simply to balance the compliance level back to 100%. Facts and figures are readily available at the market is probably at its most transparent ever.
To an extent the market had already anticipated this moved and wit that the price fell marginally but not by as much as it had risen in recent months, indicating that perhaps there could be a further supply-demand crunch later this year.
OPEC controls around one third of oil demand but its leading Member Saudi Arabia is losing the title of the largest producer in the world as the US steps in with an output this year of 10.7mbpd and next year at, supposedly,11.9mbpd, outproducing Russia too. Yet it is the partnership of Saudi and Russia which keeps the OPEC momentum intact and the strategy on track.
As OPEC knows, the oil industry has
worked hard to recover from the strife of 2014-5 when oil prices crashed and the industry almost came to a standstill.
For whatever reason the industry seems to operate on a day by day basis. When prices are high they spend and when prices are low they stop. There seems to be little balancing adopted byproducing countries in OPEC.
At the last OPEC Seminar two years ago, Rex Tillerson of Exxon Mobil made the point that the industry cannot make judgements based on the price of today, it has to be a long-term strategy. This, year Bob Dudley of BP made the point that it was a long-term business and perhaps $50-60 was the band to follow. Whether other oil companies and producers will ever follow this sound logic remains to be seen but it does however, seem to be the vision that is now being put out by Saudi Arabia.
Each time the price rises, producers hope that they will not fall back yet, over time, the market has experienced many peaks and troughs. Since 2014-5, much of the industry has re-adjusted itself, rationalised and streamlined and can now work in the $50-60 range as opposed to the $80-100. Yet, with prices over $75 today, some are perhaps hopeful this level will prevail.
OPEC has learnt higher prices mean -
demand destruction, conservation and
alternative fuels. The US shale market
is ten years old and with output set to
increase in the future, the current higher price has resulted in a higher rig count as shown in the chart above.
Much of the US can operate in the $50- 60 band and some even below.
Pipeline networks need to be developed further and in the meantime output will be held up and the rig count may fall back slightly. Over the next ten years or so the US output could rise further to 15mbpd which is almost half the current OPEC total.
But for now, much of OPEC, with Russia, is mindful that the higher oil price also supports the US and one of the traditional hawks of OPEC, Iran, is again calling for a lower oil price, a complete contradiction of earlier days’ thinking.
Yesterday afternoon the Joint Monitoring Committee met and Iran had been invited as a guest to discuss the findings and recommendations of the committee. Supposedly, when confronted with the information, the Iranian Minister “left” the meeting. Earlier in the day, the view was that he had moderated his view and would probably go along with the fundamental view.
So, my initial view is that there will have to be a degree of posturing before Iran and perhaps others can sign up to the implied increase in output.
The difficult element for Iran is that having struggled to retain its position in the OPEC output hierarchy, which it has not yet succeeded in, if it is to reduce output, who will pick up its lost share.
Ultimately though no OPEC member and particularly Iran would like it to go to the US and the attached cartoon kindly provided by Joe McMonigle of Hedgeye Risk Management says it all.
In the background to any OPEC Meeting, geo-political tension prevails. During the last few days, two refineries in Libya have changed sides again while the leaders of the two factions are discussing elections. On a more serious nature, Saudi Arabia has intensified its drive in Yemen against the Houti forces, supported by Iran and no doubt Russia, Saudi’s partner in OPEC. Russia and Iran are supporting Assad in Syria while Saudi is against him.
Yet, when it comes to oil and to OPEC, the threat from the US is certainly an incentive to both Russia and Iran to side with Saudi and balance the market to suit them and OPEC as opposed to the US. Venezuela put forward a proposal that OPEC should condemn the renewed US sanctions against Iran but Mr Al Mazrouei made it clear that OPEC will rise above such requests and will not allow such matters to influence the role of OPEC.
During the OPEC Seminar, which was an excellent event, there was much discussion on the threat of electric vehicles and the suggested doom scenario for oil. However, overall, the industry is probably confident that the revolution will not have a serious impact on oil demand. with Transportation in the form of Trucks, Trains, Planes and Ships, increasing their market share certainly to 2030 and beyond.
The real difficulty for OPEC is that with demand on the rise, particularly from the East, led by India and China, the expectation is that by 2030 Oil, Gas & Coal will stay have around 75-80% share of the market. Renewables were high on the agenda but not recognised to have the sustainability of the trio.
With a price above $60 and demand for oil believed to be robust for the next twenty years or so, the Saudi plan to float part of Aramco is still on track. Mr. All Falih was seemingly relaxed on this topic too, saying it would happen some time once they had put plans in place to set up the sale, wherever that might be.
At the start of the Meeting today, I had the opportunity to talk to the Ministers from Angola and Ecuador separately. Each seemed happy with the arrangement with non-OPEC producers particularly under the Saudi-Russia banner and was confident the Declaration of Co-operation as it is known, will be long term. I asked Dr. Diamantino Pedro Azevedo of Angola and Mr Carlos E. Pérez of Ecuador if OPEC was moving away from the traditional stop-start routine and here too was agreement that it will be for the long term. They realise that without it, they will lose the benefit gained to date.
There was general agreement that action would be taken and output would be increased although not all were supposedly in favour. I asked who was not in favour and the response was predictably “Iran”, supported by two or three others. They seem to be Venezuela, Libya and possibly Iraq. Venezuela has squandered its oil wealth and destroyed its industry while civil war in Libya is keeping it out of the running. In the last week or so damage to the refinery structure has supposedly cost the country $800m.
Iraq will always support Iran but the view is that after the usual posturing, Iran will more than likely confirm and agree. Mr Pérez was hoping to increase the number of participants joining, particularly from Latin America, namely Brazil, Argentina and Columbia.
In the opening address, HE Suhail Mohamed Al Mazrouei, UAE Minister of Energy and Industry, and President of the OPEC Conference, stated how gratifying it was that the Declaration had worked so well for OPEC and of course the market, although at the last Meeting, he would have recognised that prices over $70 had probably not been on the plan six months ago. In addition, he accepted the change in perception of OPEC compared to previous times.
During the Seminar there was much
discussion about the drop in investment in the industry since 2015 and he emphasised that in the period leading up to 2040, the required global oil sector investment in OPEC’s World Oil Outlook is estimated to be $10.5 trillion, with oil demand set to surpass 111 million barrels a day by 2040.
The challenge is serious for producers
and consumers alike although the rate
of growth will level off by around 2020 as conservation and switching to alternative fuels picks up.
Looking ahead now to where the market thought prices were heading before the Meeting today, the figures below provide an interesting range from analysis by Thomson Reuters. However, in light of the short-term response to today’s announcement, it will be interesting to see how the market digests and responds within the next week or so, once the OPEC figures have been fully explained and understood. Currently, the higher option would seem to be the favourite.
Looking back over the market to 2015, it is interesting to see the numbers in support of OPEC strategy since then, when it realised that prices would not recover and that the market, for producers, was running into deficit.
At a glance we can see that oil prices have risen across the board while stock levels have fallen. However, with the rise in oil prices, we can again see how the shale rig count and corresponding US production has risen too. Again, we must remember that pipeline shortages will delay further out put development and so too may the new trade wars that President Trump has set up, with China including US oil within the reciprocal target zone. With oil prices over $70 and rising as a result of the OPEC announcement today, some very careful thinking will be required on the part of OPEC if prices continue to rise. The members have already acknowledged that such levels are detrimental to the consuming world and also encourage both conservation and alternative energy sources like oil and gas from shale. There will no doubt be
a reaction. Meanwhile, we shall continue to follow the market until the next OPEC meeting on 3rd. December unless an interim event is called beforehand.
John Hall is Chairman of Alfa Energy. Any comments or queries, please contact me – John.Hall@Alfaenergy.co.uk + 44 7785 274530.
Petroleumworld does not necessarily share these views.
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