Easwaran Kanason

Co - founder of NrgEdge
Last Updated: April 14, 2020
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Business Trends

Just in case you missed the week's biggest news in the oil industry.  Here is a quick round-up of events. 

After over a month of posturing and rhetoric that brought crude oil prices to their lowest levels since the invasion of Iraq in 2003, the world’s largest crude oil producers managed to swallow their pride. Collectively, the OPEC+ group agreed to slash global production by nearly 10 mmb/d through June 2020, before allowing gradual increases through April 2022, when the deal expires. The scale of the new deal is vast. It is the single largest output cut in history, which is in response to the single largest demand destruction event in history, the Covid-19 pandemic, and runs on a huge timeline of 2 years.

For OPEC+, the deal serves two purposes. It immediately props up the current traded prices of crude oil, which were languishing in the US$25/b level before chatter of the deal emerged but it also is prescient enough to acknowledge that the negative impact of Covid-19 will linger for very long, hence the need for a long tail to the deal. The Great OPEC+ deal will not be enough to return oil prices to the US$50/b range. The greater Covid-19 crisis has ensured that. At least 18.5 mmb/d of oil demand has disappeared due to the pandemic; the current deal mitigates just over half of those volumes when it starts on May 1. But the goal was never to deliver a sustained recovery in crude prices. It was to ensure stability at current price levels, avoid oil prices possibly crashing further down into single digits, while managing supply to pave the way for eventual an price recovery as global economic activity slowly recovers post-Covid.

The goal was also to get the US involved. And involved it did. The emergency OPEC+ meeting, also attended by key countries not part of the OPEC+ alliance, was brokered through a series of furious meetings by US President Donald Trump. A more Machiavellian take on the Saudi Arabia-Russia oil price war was that it was a gambit to force the US to step in and get involved. Threatened with a meltdown of the US oil industry, particularly the shale patch, once an investor’s darling but now saddled with debt. Trump’s hand was forced in a crucial election year to advocate market control over free market economics. And it wasn’t just US oil facing an existential crisis; the massive LNG export infrastructure being built across the US was under threat as well. All of this was outlined to Trump in a feisty meeting with representatives of the US oil and gas industry, bitterly divided between those advocating intervention (the smaller players) and those protecting the free market (the majors and supermajors).

In the end, President Trump stepped in. He had to. Another Machiavellian take on the situation was that the oil price war was an excuse to allow Saudi Arabia and Russia to inflate their production levels in April, to cushion the blow from eventual production cuts. And, indeed, Saudi Arabia and Russia raised their output to record highs of some 12 mmb/d in April. Under the new supply deal, both countries would reduce their output to some 8.5 mmb/d, making up over half of the total expected cuts. But at the initial OPEC+ meeting on Thursday, protest came from an unusual quarter. Mexico, which has over-hedged its crude, balked at cutting its output by 400,000 b/d, promising only 100,000 b/d. The Mexican Standoff, as it was called, only ended by President Trump stepped in and promised to assist Mexico with its quota. This brought the OPEC+ supply deal down from an initial 10 mmb/d to 9.7 mmb/d.

Following the provisional OPEC+ deal, the G20 group of nations met a day after, promising to support intervention to stabilise prices. Out of that meeting, the US, Brazil and Canada aimed to reduce 3.7 mmb/d from their collective production, while the other G20 nations (including Argentina, Indonesia and the UK) would contribute another 1.3 mmb/d. However, these would not be actual quotas but ‘natural cuts’ as a by-products of the low price environment, as the free-market economies balked to establishing market controls. As President Trump put it, the free market would curb output in free market nations ‘automatically’, as private firms such as Equinor, ExxonMobil, Shell and Petrobras adjust their output accordingly.

On Sunday, OPEC+ finalised the details of its Great Deal after Mexico dropped its protest following Trump’s uncharacteristic offer to ‘pick up some of the slack’. With new countries in line (at least in spirit) with the supply deal, this has now been characterised as the Great OPEC++ Deal. But those expecting prices to rally on the news were disappointed. As Goldman Sachs called it, the deal is ‘too little, too late’. The market had already priced in a comprehensive supply deal when it rallied Brent prices from US$25/b to US$32/b; but the deal wasn’t large enough to placate a market fretting over the uncertain duration of the oncoming economic depression. Adherence to the supply cuts, as always, is always a huge question mark. But, as we have mentioned, that wasn’t the plan. Instead of a shock-and-awe cut to rally prices in the short-term, the Great OPEC++ Deal instead provides a gradual exit strategy from the current catastrophe. A catastrophe that OPEC++ itself partly contributed towards.

The OPEC++ deal in summary: 

  • Reduce OPEC+ production by 9.7 million barrels per day from current April 2020 production levels until end-June 2020
  • Revised cuts of 7.6 million barrels per day until December 2020
  • Revised cuts of 5.6 million barrels per day until April 2022
  • An additional production cut of 5 million barrels per day expected by non-OPEC+ nations, including the US, Canada, Brazil, Norway and other G20 nations

Read more:
opec saudi russia opec++ oil price shale usa G20 trump mexico covid-19
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