This is what makes OPEC even less relevant
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Both international Brent and West Texas Intermediate crude futures crossed above $50 Thursday, though analysts expect prices to temporarily head lower again in the next couple of months as some supply returns and demand drops off as it does every year after summer driving season peaks. By year end, however, $50 or above is expected to be the norm. Oil production in the last several weeks has dropped by several million barrels a day due to everything from forest fires in Canada to rebel attacks in Nigeria.
“We always said $50 by Q4 because the rebalancing would be a slow rebalancing,” said Helima Croft, head of commodities strategy at RBC Capital Markets. “The reality is OPEC has cut. It was an unintentional cut on the part of Nigeria. OPEC doesn’t have to do anything, because they are down 800,000 barrels by one country. … Nigeria can balance this market. When Nigeria goes offline, they go offline for a long time.”
OPEC heads into its June 2 meeting in Vienna with its members having failed to reach a consensus during an April meeting among the world’s major oil-producing countries in Doha. At that meeting, Saudi Arabia surprised fellow producers, including Russia, by agreeing to meet and then refusing to agree on a production freeze unless Iran did the same. The day after that meeting, WTI was as low as $37.61 per barrel.
“The oil market’s move to rebalance has been accelerated by disruptions. Canadian oil is returning, but concern continues to mount about the big losses from Nigeria and the grim outlook for Venezuela as the Maduro regime struggles to hold on to power. It’s also notable that U.S. and Chinese imports of oil this summer will be more than a million barrels higher than last summer, owing to declining production and rising demand in both countries,” wrote IHS Vice Chairman Daniel Yergin.
“Fifty dollars is a big marker, and a signal. But volatility will continue. Production levels by Gulf producers will be a key factor as we head into the summer,” Yergin noted. “This further reduces the pressure to do anything at the OPEC meeting.”
Francisco Blanch, head of global commodities and derivatives research at Bank of America/Merrill Lynch, expects OPEC to take no action at its meeting, especially after the failure to reach a deal in Doha. “I think if anything, the Saudis may try to talk the market down … because I still think that we’re only starting to see a wave of bankruptcies coming through,” said Blanch.
OPEC’s policy since November 2014 has been to let the market set oil prices, instead of managing the market through production tweaks. The policy was aimed at high-cost producers, like U.S. shale, and it resulted in driving prices sharply lower and shutting down production in the U.S. Saudi Arabia drove the policy change and had repeatedly said it will only freeze or alter production if other producers, like Iran, do the same.
“I think they’ll want to see more defaults before they let the pressure off the crude market,” Blanch said. “Demand has responded very positively. That part of the strategy has worked very well. … I think they’ll probably try to keep doing it as long as prices are in a $50 plus or minus range. It makes sense for them to keep on gaining market share.”
Croft said even if there’s no action at the meeting, it will be important to watch the players for a read on the future of the Organization of Petroleum Exporting Countries. “What I’m interested in is what does it look like when they walk out of that meeting. How deep are the divisions? Is OPEC over for now because Saudi Arabia doesn’t care? Is Saudi Arabia over OPEC?” she said. Strategists are also watching to see the dynamic at the meeting, now that Deputy Crown Prince Mohammed Bin Salman has replaced longtime oil minister Ali al-Naimi with the former head of Saudi Aramco Khalid Al-Falih, a respected technocrat.
“Do they not see soft benefits from being a part of this? Does [bin Salman] see any benefit or does he see it as a dinosaur? Does he have a different generational view of OPEC? He’s a young man. He may think this is a retrograde institution,” said Croft. OPEC would be ineffectual without Saudi’s involvement. “Saudi Arabia drives the bus. … You can’t get anything done without Saudi Arabia.”
Tensions between Iran and Saudi Arabia could be more apparent at this meeting, and the Saudis may talk about upping production, according to John Kilduff, partner with Again Capital.
“I think you’re going to hear them getting out put up to ever 11 million barrels this summer,” said Kilduff. Saudi Arabia has produced 10.2 million barrels a day last year.
“The Iranians will be at this meeting, and I think the fracture among them, the Saudis and others will really come to the forefront and will be on dislplay for all to see,” he said. “There will be no production limits placed on anyone and we’ll get our first look at the new Saudi oil minister and you may see some of this leaning forwad Saudi posture on dispaly.”
Saudi Arabia, under the direction of the deputy crown prince, has vowed to take its state owned oil company public and diversify its economy away from oil.
“Al-Naimi was the elder statesman. If he couldn’t say something positive…he wouldn’t say anything at all. I’m we’ll have quite that approach from the new guy,” he said.
Saudi Arabia is diversifying as it has had to issue debt, take loans and cut back on spending because of the drop in oil prices. Blanch said all the world producers have been feeling the pinch of low prices, some more than others.
“The cracks are happening … whether it’s Venezuela or other countries. The pressures are going to build. We’re seeing a lot of countries that are just not delivering what we thought they were going to deliver. That could get worse,” Blanch said. “Then there’s the geopolitics that are devilishly complicated in the energy space.”
As for the U.S., some shale producers could start to add rigs at $50. Pioneer Natural, for one, said it could bring some rigs on line if it believes the current price level can hold.
“As the oil price recovers, people pay down their debt and they’re going to repair their balance sheets. In the $60s, I think things change a lot,” Blanch said, noting only some companies can put on rigs at $50 and that depends on their capitalization and the specific site they are drilling.
Analysts have been expecting a rebalancing in the market that would lead to higher prices later in the year, after the seasonal dip in the third quarter. But that drop-off may be smaller than expected, depending on disruptions and other factors. They still expect a third-quarter drop in prices, after summer driving season ends and refiners prepare to switch over to winter fuel. But in the fourth quarter, many see prices above $50.
“The risks are more balanced, given that we are getting more disruptions than we anticipated. That could make the dip shallower … but I still think you get a dip, probably in the third quarter,” said Blanch. “We’re still looking for prices to average over $50 in the second half of the year. We’re not bearish here. I’m just cautious that the seasonals are very strong, and it’s really hard for [the] price to hold up for crude oil when gasoline is coming down.”
Michael Cohen, head of energy commodities research at Barclays, said oil should trade in the low $50s in the fourth quarter and reach $60 by year end. He does not expect any action, but does expect a communique. He said he doesn’t see OPEC as an irrelevant organization. “I think it’s more that they’re in hibernation,” he said.
“I think it’s difficult to fully write off OPEC as an organization that matters. The members certainly matter … I’m not going to jump on the bandwagon of writing off that they’re dead,” Cohen said.
West Texas Intermediate futures fell 0.3 pct, or 15 cents Friday to $49.33 a barrel, after reaching $50.21 on Thursday, its highest since early October.
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