A Bloodbath Looms Over Oil Markets
Oil prices have traded reliably in the $50s per barrel since OPEC agreed to cut production last November, but having failed to break through a ceiling in the upper-$50s, crude prices are in danger of falling back again.
The oil market had wind in its sails on expectations of substantial drawdowns in inventories following the pending cut of a combined 1.8 million barrels per day (1.2 mb/d from OPEC plus nearly 0.6 mb/d from non-OPEC countries). Indeed, the IEA reports that oil inventories in OECD countries have declined for five consecutive months, although they still stand above the running five-year average. Meanwhile, in the U.S. oil inventories have actually increased significantly so far in 2017.
The shockingly high compliance rate that OPEC has thus far achieved this year, one would think, should have pushed oil prices up much higher. But crude prices have barely budged since several key market watchers, including S&P Global Platts, the IEA and OPEC, put out similar numbers that show OPEC countries have achieved a roughly 80 to 90 percent compliance rate, much higher than analysts thought would be possible from the contentious group. If OPEC took 1 mb/d off the market in January, why are prices struggling to move from the low- to mid-$50s?
Of course, rising U.S. production is part of the story. The latest weekly EIA data puts U.S. output at 8.978 mb/d, a touch below 9 mb/d, which is up more than 400,000 bpd from a few months ago. In addition, the EIA’s Drilling Productivity Report estimates that production from the major shale basins will rise in March by nearly 80,000 bpd, the largest increase in five months. Nearly all of that increase is expected to come from the Permian Basin.
But on top of rising U.S. output, OPEC’s cuts are less impressive than they might seem. Output from Libya is up more than 100,000 bpd from November and up nearly 0.5 mb/d from its lowest point last year, with more gains to come. Nigeria also threatens to sabotage the OPEC deal if it restores around 0.5 mb/d of disrupted supply.
Moreover, Saudi Arabia ramped up output just ahead of the deal, blunting the impact of its cuts – it cut from a historically high levels. Also, Iran was allowed to increase production slightly, and Iraq, the other major producer in OPEC, is falling short of its pledged cuts. As for non-OPEC countries, Russia has only lowered output by 100,000 bpd compared to its promise of a 300,000 bpd reduction. At any rate, Russia cut from post-Soviet record highs as well.
In short, OPEC has indeed achieved a very high level of compliance, but the underlying math is not all it seems to be. OPEC succeeded in sparking a highly bullish mood in the oil market, but oil traders and investors are starting to catch on to the fact that there are still supply overhang problems in the market.
