Uncertainty as OPEC meets in Vienna

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What I was really imagining when I watched the Russian President and the Saudi Arabian Chief, with the FIFA President sitting between them at the opening ceremony of the 2018 world cup event was what could be going on in the minds of the two powerful oil and gas kingpins as they looked at each other cautiously. Russia is a non-Opec producer and Saudi Arabia holds the banner of giant producer of the powerful oil cartel – OPEC. …Were they actually watching the game as it increased to its crescendo or were their thoughts beyond what the FIFA President could even surmise at that material time? Were they in any way thinking about how best to keep the stability of global oil prices for mutual growth, or the strategy to be adopted to undo the other…, this and many other thoughts went on and on.

As ministers from the OPEC nations meet in Vienna any time from now, they must make a decision in the face of challenging and uncertain circumstances.

For Wood’s analysts, the producers’ group must contend with differing production expectations for Iran and Venezuela, then consider external pressure for action from the US. For Iran they say, the exact impact of the newly restored US secondary sanctions is yet to be known. Venezuela’s production outlook remains uncertain, and recent outages in Libya may also weigh on decision-makers’ minds, says Wood Mackenzie.

Woods believe it is common knowledge the statements and actions of the US President Donald Trump have always suggested that US oil production be raised by at least 1 million barrels per day (b/d) to help address perceived crude losses in the market – in effect, says Woods, lowering oil prices to avoid high prices damaging economic growth.

The question this team of analysts have posited therefore was, how does the group prepare for this rapidly evolving situation?

For them, Saudi Arabia would like to see OPEC act as a unified body and continue its partnership with Russia in managing the oil market. The Russian government they say had earlier indicated it would like to see production increase, and this they maintained, must be taken into account even though three OPEC members – Iran, Iraq and Venezuela – were reported to have signalled they were against any increase in output for H2 2018. For the oil and analysts, these dynamics were teeing up an intense June session to agree on the need for more output in the market.

Focusing on market fundamentals, Wood Mackenzie says they’re looking at the impact of three possible options for OPEC and co-operating non-OPEC producers.

On option one which falls within the fundamentals forecast, sees a 380,000 b/d decline in supply from Venezuela, January to December 2018, and Iran’s output slipping to 3.4 million b/d by the end of this year, OPEC could maintain its goal of stable oil prices and continue the current production cut agreement they maintained. And their base case outlook sees the losses from Venezuela and Iran being somewhat offset by continued growth in the US, a view which according to them leads to a small implied stock draw in Q3 2018, followed by an inventory build in Q4 2018 which to them is expected to weaken prices heading into 2019 envisaging some kind of oversupply for the year.

If consensus at the meetings is for a larger decline in Venezuela or Iran, or both, compared with our base case, that’s on second option, then OPEC and Russia along with other non-OPEC partners could decide on a production increase in H2 2018. But their analysis they say shows a moderate production increase in OPEC and non-OPEC which could also be absorbed by the market, with prices averaging $71 per barrel Brent in 2018 versus the base case of $74/b. Wood Mackenzie team says they’ve prepared this analysis to assume that OPEC will agree to increase its output by 0.5 millon b/d, and Russia by 0.1 million b/d in H2 2018.

OPEC could increase output by a more dramatic 1 million b/d, adding a further 0.3 million b/d from Russia to bring the total gain closer to 1.5 million b/d. Saudi Arabia could do this with Russia to weaken oil prices significantly – leading to a reduction in gasoline prices in the US, and providing support to President Trump, that’s the third option. But Wood said such a decision, if implemented, would have a large impact on the supply-and-demand fundamentals by creating implied stock builds averaging 0.9 million b/d in H2 2018, and 1.8 million b/d in 2019.

If OPEC and Russia were to agree on a production increase, says Woods, it would likely be a moderate one, which would avoid a sharp downward price adjustment, yet provide a response to US pressure for more supply. This is akin to Option 2, which is more likely to gain wider OPEC ministerial support than the larger increase mooted in Option 3, the research analysts maintained.

But that said, much depends, says Wood Mackenzie, on OPEC and non-OPEC expectations, so the outcome of the meeting remains highly uncertain.

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