EXTRAORDINARY OIL REPORT
13 APRIL 2020
The OPEC+ agreement.
Yesterday, April 12th, OPEC+ ministers (OPEC and non-OPEC countries) finally reached an agreement to cut production after their failed attempt last Friday, April 10th, due to Mexico’s opposition.
The agreement provides for the following:
- Adjust downwards its overall crude oil production by 9.7 mb/d, starting on May 1st, 2020 for an initial period of two months, ending on June 30th,
- For the subsequent 6-month period from July 1st,2020 to December 31st, 2020, the total agreed adjustment will be 7.7 mb/d.
- This will be followed by an adjustment of 5.8 million barrels per day for 16 months, from January 1st, 2021 to April 30th, 2022.
- The baseline for the calculation of the adjustments is October 2018 oil production, except for the Kingdom of Saudi Arabia and the Russian Federation, both of which have the same baseline level of 11.0 mb/d.
- The agreement will be valid until April 30th, 2022; however, the extension of this agreement will be reviewed during December 2021.
The cut in production achieved by OPEC+ is the result of an extraordinary effort by the oil-producing countries, led by the Kingdom of Saudi Arabia and the Russian Federation, in their attempt to stabilize the oil market and recover the price of oil, which has fallen by more than 48% since the beginning of March, due to the collapse of the world economy in the wake of the COVID-19 pandemic.
Mexico’s opposition to the OPEC+ pre-agreement of Thursday, April 9th, which blocked the entry into force of the cuts, could finally be overcome by the intervention of US President Donald Trump when he convinced Mexican President Andrés Manuel López Obrador to accept the OPEC+ agreement and that the US would cut 200 MBD of its production on behalf of Mexico, so the latter would only cut 100 MBD. It is not known how the US will fulfill its offer, but, in the end, the OPEC+ agreement closed with Mexico included and a total cut slightly less than the initially pre-agreed 10 million barrels per day though undoubtedly very important.
This extraordinary cutback is the largest ever made to stabilize the price of oil but has not been accompanied, as expected, by the industrialized oil-producing countries grouped in the G-20.
The G-20 Energy Ministers’ meeting on April 10th, where it was expected the assume ption of a production cut of 5 million barrels a day, ended only with a general declaration of support for stabilizing the market but without any cuts in production.
Some agencies, specialists, and even ministers talk about the approved cut, which actually includes up to 13 million barrels a day of production. Some even talk about up to 19 million barrels a day, by including volumes that will leave the market due to their lack of economic feasibility regarding production, as it is already happening in the US and Canada due to the high costs of their production of both , respectively, shale oil and oil from the Athabasca oil sands.
It is wrong to add to the OPEC+ production cuts the barrels of oil that will come out of supply for economic rather than political reasons. This is perceived by the market and reflected in prices. What if the political will of the large producers voluntarily influences the stabilization of the oil market?
This difference in the type of cut, by a political decision as done by OPEC+ or as a consequence of its economic unfeasibility, is not a question of semantics. On the contrary, it is a question of substance. The central theme of the discussion in oil policy is the need to intervene in the market through the regulation of production to defend a fair price for oil.
It is not the “invisible hand” of the market that will recover and stabilize the price, it is the determined intervention of the oil-producing countries to reduce their supply and defend the price of a natural resource that is being depleted.
We have always maintained that the oil-producing countries not only have the right to obtain a fair price for our natural resources, for the benefit of our peoples and to maintain their exploitation, but we must also regulate their production to avoid wasteful consumption, a policy of conservation of natural resources, which will ensure that they are not exhausted and will be available in the long term to sustain the world’s economy.
That is why if there is no OPEC, someone else will take on this role, whether it be OPEC+ or an alliance between the US, Russia, and Saudi Arabia.
A strategic shift
As we mentioned in the weekly report of April 10th, the oil market is now decided according to the interest of the three largest producing countries, the US, Russia, and Saudi Arabia.
The United States
The role of the US and President Trump has been instrumental in obtaining the OPEC+ agreement. In his particular style and using all his powers of persuasion, President Trump made it possible for the Russian Federation and the Kingdom of Saudi Arabia to sit down and negotiate, in addition to directly influencing other countries such as Mexico.
Trump, while maintaining a discourse in favor of free-market action, nevertheless demanded that both Russians and Saudis cut their oil production by 10 to 15 million barrels a day and end their price war. Thus he fulfilled his task.
The performance of the US Administration is, however, beyond political discourse, more consistent with the interests of a producer country than of a consumer country. Today, the United States is the world’s leading oil producer, with a sector that provides fundamental resources for its economy and employs 1.1 million people. It is a position that also gives the US a strategic advantage and independence from supplies from conflict areas that it is not prepared to lose.
OPEC, as an organization, is very weakened as a result of the systematic destabilization of some of its member countries, wars, sanctions, invasions and political volatility, which has reduced its production, as well as its possibilities of influencing the organization politically. Today, OPEC is an organization that is fundamentally managed according to the interests of the Kingdom of Saudi Arabia and the Persian Gulf monarchies.
Russian President Vladimir Putin manages his oil policy with a clear conscience that it is a powerful instrument of geopolitical negotiation. As one of the key actors in the conflicts in the Middle East, Syria, Libya and their agreements with Iran, he has been able to work both with Saudi Arabia and manage commitments and agreements from their difficult relationship with the US Administration.
These three actors, big oil producers, have shown that they are capable of coordinating actions in defense of their own interests and behind them, leading the rest of the oil-producing countries; an action that is reflected in the recent OPEC+ agreement. It remains to be seen whether this coordination and conjunction of interests will be consolidated and maintained over time.
Last week, the price references for Brent and WTI continued their downward trend. Today, they were quoted at $33.16 and $23.18 a barrel respectively, which represents a drop of 38% for Brent, and even stronger for WTI with 51% compared to the quotations registered before the OPEC+ meeting on March 4th. Both remain almost unchanged from Friday’s prices, which in the case of Brent stood at $31.45 a barrel and WTI at $22.76 a barrel.
The reaction of prices has not been what was expected, after such important production cut decisions announced yesterday, April 12th. According to the behavior of prices, especially the WTI last week, greater effects impacted upward the tweets of President Trump, than the agreed cuts.
In other circumstances, the mere announcement of the pre-agreement of the 10 million barrel per day cut made by OPEC+ last Thursday, April 9th, would have been enough to boost oil prices. Although the markets did not open on Friday because of the Easter celebration, the announcement of yesterday’s 9.7 million barrel per day cut would have been enough to send oil prices soaring today, which they did not.
On the other hand, the destabilization of the market, due to the collapse of the economy caused by COVID-19, is profound. Oil consumption demand has fallen dramatically and is estimated to be between 20 and 30%, i.e., 20 to 30 million barrels of oil per day of reduced demand. Therefore, the cut of 10 million barrels per day, even one of up to 15 million barrels per day, is an important step, but it is insufficient.
Saudi Arabia and Russia did not properly assess the market situation when they decided to start a price war. All the overproduction of one month, and the one that will continue all this month, until the cut comes into effect from the first of May, has flooded the oil market, a market that stopped consuming abruptly from the beginning of March.
That is why commercial and strategic inventories have been filled with cheap oil, which no one is consuming. Some analysts and agencies estimate that even these will collapse and there will have to be further cuts in production.
The process of draining these inventories will not only be gradual and slow as consumption begins to recover with the reactivation of the economy but will further delay the possibility of requiring higher volumes of oil production.
In our assessment, the price of oil, although it may have some upside, has lost much ground and will remain very low, at least for this year. Demand has collapsed as never before and inventories are at peak levels in a world with a recessionary economy, bankrupt, paralyzed companies, and three billion people with restrictions on movement.
This crisis, unprecedented in the oil market, will be accompanied by the political and social problems of the collapse of the economies of the producing countries, the re-accommodation of the producing sector and its companies, and a new cycle of lack of investment in the sector.
Undoubtedly, strategic changes are taking place in the oil market, with an evident weakening of OPEC and the return of the USA, the largest economy on the planet, acting more as an oil-producing country than as a consumer.