Saudi, Russia cutbacks buoy oil bulls, but respite from frackers won’t last

Fortunes are made and lost in daily trading of crude oil, and bulls enjoyed a fillip this morning when the price jumped almost a dollar a barrel. This move came after Saudi Arabia and Russia supported the leaky OPEC cartel’s plan for long-term production cuts. But the respite will only be temporary as booming supply from frackers, primarily in North America, will quickly take up any slack. The oil market is an excellent reminder that it is unwise to bet against human ingenuity. It also re-iterates the old maxim that the cure for high commodity prices are high commodity prices – the trigger which focuses human attention on finding alternatives. – Alec Hogg

(Bloomberg) – Saudi Arabia and Russia said they favour prolonging oil-output cuts by global producers through the end of the first quarter of 2018, setting a firmer timeframe for a likely extension of the curbs into next year. Crude prices jumped.

Extending the curbs at already agreed-upon volumes is needed to reach the goal of reducing global inventories to the 5-year average, the energy ministers of the world’s biggest oil producers said in a joint press conference in Beijing. They will present their position ahead of a meeting between OPEC and other nations that are part of the agreement later this month in Vienna.

Russia and Saudi Arabia, the largest of the 24 nations that agreed to a deal to cut production for six months starting in January, are reaffirming their commitment to the deal amid growing doubts about its effectiveness. Surging U.S. production has raised concern that the Organization of Petroleum Exporting Countries and its partners are failing to reduce an oversupply. Oil has surrendered most of its gains since their deal late last year.

“The agreement needs to be extended as we will not reach the desired inventory level by end of June,” Saudi Arabia’s Khalid Al-Falih said during the event with Russia’s Alexander Novak. “Therefore we came to the conclusion that ending will probably be better by the end of first quarter 2018.”

Khalid Bin Abdulaziz Al-Falih, Saudi Arabia’s energy minister, left, speaks as Alexander Novak, Russia’s energy minister, looks on during a news conference on the sidelines of the Belt and Road Forum for International Cooperation in Beijing, China, on Monday, May 15, 2017. Saudi Arabia and Russia said they favor prolonging oil-output cuts by global producers through the end of the first quarter of 2018, setting a firmer timeframe for a likely extension of the curbs into next year. Crude prices jumped. Photographer: Qilai Shen/Bloomberg

Oil futures jumped as the ministers spoke. U.S. West Texas Intermediate added as much as 1.8 percent to $48.70 a barrel on the New York Mercantile Exchange, the highest since May 2. Global benchmark Brent crude added 1.7 percent to $51.69 on the ICE Futures Europe exchange. Both are still more than 50 percent below their peaks in 2014.

As OPEC and its allies curb supply, production in the U.S., which is not part of the agreement, has risen to the highest level since August 2015 as drillers pump more from shale fields. But American crude inventories are showing some signs of shrinking, falling for the past five weeks from record levels at the end of March.

OPEC members agreed in November to cut 1.2 million barrels a day of oil production, and several non-members, including Russia, agreed in December to contribute a combined 600,000 barrels a day of output reductions.

“Preliminary consultations show that everybody is committed” to the output agreement and no country is willing to quit, said Novak. “I don’t see reasons for any country to quit.” The energy ministry has held preliminary discussions with Russian companies on the matter, he said.

More countries have been invited to the meeting of OPEC and its partners to be held May 24-25, according to Novak. While the curbs by the producers is working, “we are not where we want to be” on the initial goal of bringing global inventories down “gently” below the 5-year average, Al-Falih said.

“We have, before coming to this announcement today, reached out to many of our colleagues within and outside OPEC, and I think there is general consensus that this is the right approach and the right thing to do,” he said of the proposal to extend the curbs for 9 months.

Analysts including Goldman Sachs Group Inc. have said the global oil market is re-balancing, and the International Energy Agency predicts demand will significantly exceed production if OPEC and its partners extend their cuts into the second half of the year.

Meanwhile, two OPEC members that were exempt from reducing output because of internal strife are boosting supplies. Libya’s crude production has risen to more than 800,000 barrels a day as fields restart, the most since 2014. Nigeria’s 200,000 barrel-a-day Forcados oil pipeline is ready to export again after being shut down almost continuously since February 2016. It’s unclear whether the countries would still be exempted if the deal is prolonged.

“Our joint interest is to bring stability, reduce volatility and serve the interests of producers and consumers for the long term,” Al-Falih said on Monday.

What OPEC needs to do to reach its targets

By Julian Lee

(Bloomberg Gadfly) – OPEC is going to have to do much more than simply extend its current production deal when it meets next week if it’s serious about addressing surplus inventory. In fact, its own figures show it needs to double the cut it made in January. That means finding another 1.2 million barrels a day to take out of production.

In its latest forecast, published last week, the producer group trimmed its estimate of the need for OPEC crude this year by 300,000 barrels a day. At that level of production — 31.92 million barrels a day — inventories will remain static, assuming demand and non-OPEC supply forecasts are correct.

File Photo: A pumpjack operates at the Inglewood Oil field in Los Angeles, California, U.S., on Thursday, Oct. 19, 2012. Photographer: Patrick T. Fallon/Bloomberg

OPEC produced 31.74 million barrels a day in April, according to secondary-source estimates published by the group. Simply rolling that level forward for another six months will exhaust the excess at an average rate of 722,000 barrels a day in the second half and will see about 120 million barrels removed from inventories in the nine months begun at the end of March. That may seem like a lot, but OPEC puts the excess at the end of the first quarter at 276 million barrels — and that’s just in the developed countries of the OECD.

Merely extending the cuts won’t bring oil inventories anywhere close to their five-year average level by the end of December. And let’s set aside the fact that the five-year average has been inflated by two years of surplus, which means stockpiles will have to come down significantly below that to return to normal levels.

Implementation of the agreement so far has been better than expected, but that does more to highlight the deal’s weakness than anything else.

Ensuring compliance in the second half will probably prove much harder. Several key producers have achieved their targets by simply bringing forward maintenance at oil fields and refineries. Extending the cuts will require real sacrifices, like shuttering production and reducing exports.

There’s a risk even that won’t be sufficient.

North American output is booming, and there are signs of recovery in Libya and Nigeria.

The U.S. Department of Energy recently published a new forecast that revised the country’s oil output up yet again. Crude-oil production is now expected to rise by 960,000 barrels a day between December 2016 and December 2017. That compares with a 210,00 barrel a day increase it foresaw just before OPEC’s November gathering. Add in a 470,000 barrel a day ramp up in the production of natural gas liquids, and OPEC’s entire cut is more than offset.

OPEC’s numbers show the group needs to limit its total production to 30.88 million barrels a day from July to deplete the excess OECD inventory — a decrease of 900,000 barrels a day from current levels. But with Libya and Nigeria, which are exempt from the supply-reduction deal, both restoring production after months-long disruptions, deeper cuts will be required still.

If OPEC wants to drain surplus inventories by the end of the year, its members are going to have to accept some real pain. Even then, the risk is that their actions spur more supply from U.S. shale. It’s time for some tough decisions.

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