Analysis
Analysis
Pain and gain in the oil market
THE ANNOUNCEMENT THAT OPEC WOULD REDUCE ITS OIL PRODUCTION BY OVER ONE MILLION BARRELS PER DAY DEFIED EXPECTATIONS AND POTENTIALLY OPENS THE DOOR FOR HIGHER OIL PRICES IN THE MEDIUM TO LONG-TERM – ASSUMING OPEC CAN KEEP TO THE TERMS OF THE DEAL . CORNWALL ’ S DR CRAIG LOWREY DISCUSSES .
The decision by the members of OPEC to commit to a collective production cut and a production sharing arrangement saw crude oil prices surge by more than 10 % in two days . With attempts earlier in 2016 to agree a production sharing deal having collapsed due to disagreements between Saudi Arabia and Iran , both the agreement itself and the extent of the planned reduction caught many by surprise .
The deal to cut a total of 1.2 million barrels per day , or approximately 4 % of the group ’ s total , will be backed up by a further reduction of 558,000 barrels by non-OPEC countries – over half of which will come from Russia . As OPEC ’ s largest producer , Saudi Arabia has agreed to shoulder the burden of the production cuts , and while its fellow members will also reduce their output , Iran will be permitted to increase output as it recovers from the impact of Western sanctions . The deal will run for an initial six-month period before being reviewed at OPEC ’ s next formal meeting .
Figures from the International Energy Agency ( IEA ) indicate that the combined approximate 1.8 million barrels per day cut will push the prevailing global oil market surplus into a shortage , providing fresh medium and long-term support for oil prices . As such , the adherence of oil producers to their commitments under the deal will be essential , particularly if a longer-term arrangement is to be secured from June .
HIGHER PRICES RESULTING FROM AN OPEC BACKED DEAL COULD ULTIMATELY BOOST THE FUTURE OF THE OIL INDUSTRY …. ALTHOUGH THIS WILL PROVIDE COLD COMFORT FOR CUSTOMERS
Unfortunately , OPEC does not have the best track record in this regard – the group ’ s last production sharing arrangement collapsed because members consistently breached their quotas . The group ’ s decision to scrap the policy came in 2008 in response to the growth of the US shale oil sector , with Saudi-led efforts to boost OPEC ’ s output in an attempt to force American producers out of business .
Although the resultant oil market glut saw crude prices slump , US producers proved much more resilient to low prices than OPEC had expected . Indeed , the flexibility and ability to reduce costs that US producers have exhibited in recent years means that they could benefit from any longer-term rally in the oil market resulting from the new OPEC deal – compounding any underlying boost they could well see from a Trump presidency given policy pledges to make the US increasingly selfsufficient in energy .
Over the last decade Brent crude prices have been highly volatile – reaching highs of $ 145.60 per barrel in July 2008 and sinking to lows of $ 27.80 per barrel in January 2016 . But Cornwall ’ s Chart of the Week published on 16 December 2016 demonstrates that , from a price standpoint , the market could be rebalancing .
In the weeks running up to the OPEC meeting , the oil market saw renewed volatility , although it typically remained within a range of $ 45 to $ 50 per barrel . News of the deal saw the market jump to almost $ 58 per barrel before dropping back to around $ 55 per barrel . Although the potential for further gains will depend upon the ability of OPEC nations to comply with the deal – as well as the participation of their Russian counterparts .
Successful collective action between the two is largely unprecedented , while Russian officials have previously indicated that they will only participate if OPEC can keep to its collective end of the bargain . Managing the underlying economic and geopolitical disputes between Saudi Arabia and Iran will therefore be essential if the group is to be successful .
From a practical standpoint , it is in the best interests of oil producers – particularly those that are acutely reliant on oil sales from an economic standpoint – that any deal succeeds . Saudi Arabia has an ambitious economic reform programme , part of which will see a greater diversification away from oil , but which at its core will require sustained oil revenues to fund these changes .
BRENT CRUDE ’ S HIGHLY VOLATILE MARKET – HIGHS OF $ 145.60 PER BARREL IN JULY 2008 TO LOWS OF £ 27.80 IN JANUARY 2016
The past couple of years have seen the suspension and cancellation of many exploration and production projects by oil companies across the globe , and therefore higher prices will be a catalyst for fresh investment in the sector . With fears that a supply glut could turn to a supply squeeze within the next five to ten years because of this deferred investment , higher prices resulting from an OPEC-backed deal could ultimately boost the future of the oil industry .
Although this will provide cold comfort for customers , an increase in oil prices in the short to medium-term – particularly coming after an effective increase in the price of heating oil caused by Sterling ’ s Brexit-induced slump – this could prove beneficial in the long-term compared to the alternative of an even more volatile and uncertainty future .
Fuel Oil News | February 2017 23