Last week, OPEC and non-OPEC major oil producers agreed to extend production cuts that have prompted the recovery in oil prices through the end of 2018. With the cuts in place, oil prices have risen to above $60 per barrel from early 2016’s low of below $30. But as oil prices rise, market watchers are concerned that U.S. shale production will again hit a stride capable of knocking the entire Saudi Arabian-led market off kilter.
In December 2016, OPEC and major non-OPEC oil producers reached their first deal to cut production since 2001. The 13 OPEC countries agreed to cut output by 1.2 million barrels per day (bpd), with Libya and Nigeria exempted. Eleven non-OPEC countries — Azerbaijan, Bahrain, Bolivia, Brunei, Equatorial Guinea, Kazakhstan, Malaysia, Mexico, Oman, Sudan, and South Sudan — made commitments to cut production by 1.8 million bpd among them.
The nine-month extension on the deal between OPEC and non-OPEC producers (which was scheduled to expire in March 2018, originally), could be viewed as a deferment.Enjoying this article? Click here to subscribe for full access. Just $5 a month.
Michael Cohen, head of global commodities research at Barclays, told CNBC, “What they’re going to do is kick the can down the road in some way that saves face.”
The deal is expected to be revisited in June 2018 at the next official OPEC meeting.
As Tom Kool writes for Oilprice.com, it was “All smiles from Vienna,” where the Russian and Saudi energy ministers emphasized unity on the cuts despite Russian concerns and ulterior Saudi movies.
Russian Concerns and Saudi Motives
Helima Croft, global head of commodity strategy at RBC, told CNBC ahead of the OPEC meetings last week that “Russian corporates are being so public about being unhappy about the agreement, and the markets are getting a little jittery.” Other sources suggested the Russian government may finagle a tax deal for Russian producers to get buy-in on the cuts.
Chris Weafer, senior partner at Macro-Advisory, told CNBC that Russian producers are watching U.S. oil production closely “because they’re commercial companies and unlike the OPEC models, they have to produce results and pay dividends.”
Russian concerns center on the fact that rising oil prices mean more profitability and more activity among American shale companies.
This concern was bolstered by data released by the U.S. Energy Information Administration, which indicated that the United States produced 9.48 million barrels per day in September, up 3 percent over October.
Despite concerns, Russia signed onto the extension of the cuts but analysts said Moscow has been asking about the exit strategy.
Russian producers have learned to live with $50 per barrel, but analysts say Saudi Arabia would like to see higher prices. One possible motive is the planned initial public offering of Saudi Aramco in the second half of 2018. But as Reuters noted, the “sale of the century” is moving sluggishly, with Riyadh still hesitant to name the international exchange which will handle the offering along with the Saudi market. At the same time, political maneuvering in the Kingdom is also a motivation for higher prices.
As noted above, the December 2016 deal was the first since 2001. That 2001 deal failed, in part, because Russia made commitments it subsequently did not keep. In its own way, OPEC engineered its own cheat into the December 2016 deal, exempting Nigeria and Libya from production cuts. The extension, however, does include the two conflict-ridden countries promising not to exceed their 2017 production levels in 2018.
As I wrote earlier this year, the current production cut scheme has its cheaters. Kazakhstan, in particular, looked to be cheating wildly. But as the year went on, problems at Kashagan slowed the growth of production and brought Astana closer to compliance. That said, according to the International Energy Agency, Kazakhstan’s oil supply is likely to be seen expanding by 165,000 bpd in 2017 (far from its agreed cut of 20,000 bpd).
The IEA’s tracking of non-OPEC producers’ compliance shows an average of 81 percent compliance but that number disguises wild overcompliance in Mexico and undercompliance in Kazakhstan. Mexico, for example, promised to cut 100,000 bpd in 2017 but the numbers show a more than 220,000 bpd cut on average, in large part because of production interruptions caused by hurricanes in the Gulf of Mexico in September.
Kazakhstan, on the other hand, has an average compliance of -95 percent (yes, negative 95 percent compliance). October may have seen Kazakhstan coming into compliance for the first time since January, with the IEA noting that the cause was production problems at Kashagan.
As we enter 2018, market watchers will be eyeing U.S. production as it recovers from this fall’s devastating Gulf coast hurricanes and higher prices motivate shale producers to ramp up their efforts. Deal watchers will be probably be keeping tabs on Russian production and political attitudes toward the cut deal and looking toward next summer for a possible reevaluation of the agreed extension. If the OPEC and non-OPEC cut crowd underestimates the American market’s buoyancy, it could trigger another price collapse as happened in 2014.