OPEC extends production cuts

OPEC and its partners – including Russia, the world’s largest oil producer – formally agreed at a meeting on 25 May 2017 to extend their supply restraint agreements for a further nine months to the end of March 2018, due to concerns about the substantial inventory overhang that continues to impact oil prices. The news was not a huge surprise, as an extension to the supply pact first agreed at the end of 2016 had been signalled well in advance by both the Saudi and Russian oil ministers, among others. The original deal which had agreed a production cut of 1.8mn b/d – 1.2mn b/d by OPEC and the remainder by 11 non-OPEC countries led by Russia, was due to expire in June 2017. OPEC has a self-imposed goal of bringing stocks down from a record high of 3bn barrels to a five-year average of 2.7bn barrels.

However, Nizam Hamid, ETF Strategist in Europe at WisdomTree, noted that OPEC’s long-awaited meeting had ‘disappointed investors’, with ‘oil prices giving up recent gains after members dashed expectations of deeper cuts to production and merely reiterated the status quo’. He said: ‘The falls may provide a buying opportunity for investors who believe in the long-term story for oil, but they also highlight the environment of heightened volatility which the commodity is facing. With supply side dynamics undergoing a fundamental shift thanks to the impact of US shale, only decisive action from OPEC will boost prices from current levels, and so far investors have not been satisfied that OPEC is tackling the issue aggressively enough.’

The end of March 2018 – when the latest deal is set to expire – need not be a hard stop, according to market analyst IHS Markit, which noted that while no exit strategy has been laid down, Saudi Oil Minister Khalid al-Falih, with Russian Oil Minister Alexander Novak by his side, have indicated that the alliance intends to deal flexibly with whatever situation arises, implying that the extent and duration of the cuts arrangement is dependent on market balancing and price imperatives.

However, it also noted that fast-rising US shale output ‘continues to be a challenge’, stating that: ‘Oil activities in the US are not under the direct control of the government. OPEC and its alliance of oil producing governments cannot do a government-level deal limiting the output of producers in the US.’ IHS Markit projects that annual average crude oil production in the US and Canada will rise by 1.6mn b/d between 2016 and 2018, an offsetting factor for the cuts being made by OPEC and its non-OPEC partners. Output in the US alone is projected to rise by more than 900,000 b/d from the beginning of 2017 to the end of the year.

Libya and Nigeria will continue to be exempt from the agreed cuts, as their oil output continues to curtailed by political and social unrest.

Sam Wahab, Director of oil and gas research at Cantor Fitzgerald Europe commented that: ‘Following the meeting both Brent and WTI were trading lower on the news as a proportion of the market had priced in the potential for deeper cuts. However, this failed to materialise – a case of buying on rumour and selling on facts.’ He continued: ‘There seems to be a little resistance on the price at $55/b, but if OPEC members and a selection of non-OPEC members – notably Russia – abide by the supply cut, the price could conceivably hit $60/b by year end.’ It is also worth noting that Saudi Arabia is in the process of listing the national oil company Aramco and will therefore require a stable oil price to support its $2tn valuation of the company, It is therefore in the country’s interest to continue with production cuts.

OPEC and its non-OPEC partners are planning to next meet in Vienna on 30 November 2017 to review the oil market situation.

Equatorial Guinea, which had been part of the non-OPEC group, was accepted by OPEC as a member at this latest meeting, increasing the ranks of OPEC to 14 and reducing the non-OPEC group to 10.