The Fuse

OPEC Stays Course on 9-Month Extension Narrative; Signals Possibility of 12-Month Deal

by Leslie Hayward | May 24, 2017

OPEC’s Joint Ministerial Monitoring Committee (JMMC) met today in Vienna for the third time to measure compliance for the November deal and develop a concrete proposal ahead of tomorrow’s back-to-back ministerial meetings between OPEC and participating non-OPEC countries. As reporters and analysts waited for the press conference, with expected attendance from Saudi Energy Minister Khalid al-Falih and Russian Energy Minister Alexander Novak, OPEC staff cancelled the speech and instead distributed a press release by hand with the JMMC’s findings.

Unsurprisingly, given the positioning of Russia and Saudi Arabia heading into this week, the JMMC concluded that production cuts should extend for another nine months into March of 2018: “The duration of the anticipated extension should be longer than the originally stated period in the Declaration of Cooperation of six months.” The JMMC also “decided to recommend that the production adjustments of the participating countries be extended for nine months commencing 1 July 2017. In this regard, the JMMC should continue monitoring conformity levels as well as market conditions and immediate prospects, and recommend further adjustment actions, if deemed necessary.”

Additionally, the JMMC’s release touted the high compliance among its members and non-OPEC producers joining in the cut. It stated that as of April 2017 data, OPEC and its allies achieved an “impressive conformity level of 102 percent,” an increase of four percent over March’s figures.

Even though overall compliance for the 1.8 mbd cut is high, the burden is unevenly distributed.

Even though overall compliance for the 1.8 mbd cut is high, the burden is unevenly distributed. According to the latest International Energy Agency (IEA) monthly report, for example, Saudi Arabia over-complied by about 70,000 barrels per day in April, and for the first four months of 2017, four OPEC members have cut by 100 percent or higher versus their agreed amounts. The UAE, Gabon, Iraq, and Venezuela, however, are notably below 50 percent compliance. Compliance levels are even more out of whack for non-OPEC producers. Russia reached 77 percent compliance in April, while Mexico and Oman followed through on their agreements. Very small producers, which include both Sudans and Bahrain, have a low compliance rate of 23 percent. In Kazakhstan, which agreed to cut by 20,000 b/d, output has actually risen as a result of the Kashagan field.

OPEC walks a fine line ahead of its formal meeting

The stakes are high for the cartel as it seeks to continue accelerating the oil market rebalancing and bolstering speculator sentiment. OPEC and its friends are looking to find a way to demonstrate coherence and collaboration without Saudi Arabia admitting that it is picking up slack for other members. Furthermore, the group doesn’t want the cut to provide too much assistance to U.S. shale oil producers, but it also can’t step away from its current efforts without risking a major sell-off.

The preemptive announcement of a 9-month extension has been an unexpected development. Market watchers wonder about the effectiveness of the strategy underpinning the move between Russia and Saudi last week. Given that most analysts expected a 6-month rollover in the weeks leading up to the meeting, a 9-month extension announced after tomorrow’s formal ministerial meeting would have been enough to provide a market surprise. The biggest question coming into this week was whether OPEC has something else up its sleeve for tomorrow, but the cancellation of today’s JMMC press conference signals that the 9-month extension at current production levels will be the likely outcome.

News reports surfaced late in the day Wednesday that a 12-month extension was also being considered. “The recommendation is to keep current quotas … The duration is nine months. Tomorrow we will discuss the possibility of extending by another three months (to June 2018),” Novak said.

The biggest question coming into this week was whether OPEC has something else up its sleeve for tomorrow, but signals point to a 9-month extension at current production levels.

There are a number of rumors circulating in Vienna as to why producers will agree to a 9-month extension rather than a 6-month deal, per the original agreement. There were also questions about why it was announced a week and a half ahead of the formal meeting. For one, Russia has presidential elections in March of next year. Second, extending the deal may draw OECD inventories into the 5-year range and realign supply and demand. We will know if OPEC’s efforts are successful by January. For a 6-month deal that finishes at the end of 2017, there would still likely be a selloff once it ends even if it achieved success according to OPEC’s standards. A sharp price correction would likely hit the Ruble, hurting Russian President Vladimir Putin’s popularity leading into the election in March. Putin’s chances of winning reelection are already extremely high, so it’s unclear if this factor is legitimate. Another rumor is that OPEC ministers wanted to complete the deal before Ramadan begins on Friday. They didn’t want to take a chance that a deal wouldn’t be struck by the end of the day tomorrow.

“Early June is when producers start locking in export volumes for July, which is the first month of the extension period. So they need to agree now; next month would be too late.”

Other experts have a more mundane explanation. “Early June is when producers start locking in export volumes for July, which is the first month of the extension period. So they need to agree now; next month would be too late. You can imagine a situation where countries line up sales ahead of a meeting but then they promise each other they’ll produce less. That’s a recipe for cheating,” said Matthew M. Reed, Vice President of consultancy Foreign Reports.

Every OPEC meeting is different, but this week’s events are unusual given the early announcement of the group’s plans, the increased number of participants, the changes in the Saudi delegation that are altering patterns of information flow to reporters, and the additions of the JMMC and the meeting of non-OPEC countries tomorrow. Without question, the cartel’s endeavors are breaking from long-established norms, contributing to confusion as the oil price remain range-bound.

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