The Fuse

Saudi Energy Minister: Too Soon to Commit to Extending Production Cut

by Matt Piotrowski | March 07, 2017

Those watching the Saudi energy minister’s highly anticipated speech Tuesday morning had two big questions. Will OPEC extend its cuts beyond the first half of the year and will the country’s oil company launch its IPO on schedule in 2018?

For the first question, Khalid Al-Falih told attendees at CERAWeek by IHS Markit that while the “historic” output cut agreed last year is working in the favor of producers, Saudi Arabia says it is too soon to say whether it should be maintained for the second half of 2017. He added that Saudi Arabia will not commit to curbing output indefinitely but noted his concern that inventories still remain too high. For the second question, Falih expressed confidence that Saudi Aramco will go public in 2018, despite skepticism within the Kingdom.

Cut for a ‘restricted period’ of time

“We will not bear the burden of free riders.”

Although Falih believes the production cut of 1.8 million barrels per day has “expanded the network” of players willing to collaborate to bring about “market stability,” he warned against other countries taking advantage of the Saudis carrying the greatest weight to rebalance the market. “We will not bear the burden of free riders,” Falih said as a warning to both producers within the OPEC cartel and those outside it. Since the beginning of the year, Saudi Arabia has cut production by more than its pledge of 486,000 barrels per day, a sign of how it is contributing more than others in throttling back.

With the current price rebound to above $50 per barrel, in contrast to the $30 range at this time last year, Falih said there is cause for “cautious optimism” but warned against “irrational exuberance.” Falih played up the OPEC/non-OPEC cut, saying that it brought about “the greatest alignment [among producers] than at any time in recent history.” However, Falih warned that the agreement would last for only a “restricted period of time,” after which producers would let the “free market” work to set the price. Falih several times emphasized that the market could not rely on the Kingdom indefinitely to be the leader to manage fundamentals and prop up prices.

Falih warned that the production agreement would last for only a “restricted period of time.”

Falih stated, contrary to much commentary, that the Kingdom welcomes a return of investors to U.S. shale, a development that will help stabilize the market. He did, however, argue that that players in the shale patch have gotten ahead of themselves. There are “green shoots definitely in the U.S., but they may be growing too fast,” he told the audience.

His worry is that, currently, too much investment is going into short-cycle projects, a trend that adds to the current glut, while long-cycle outlays are insufficient to meet demand growth in the coming years. Thus, a longer-term supply crunch could emerge, particularly since peak demand will not occur in the near to medium term because of global demographic and economic trends.

In the coming months leading up to the next OPEC meeting at the end of May, Falih and other ministers in OPEC will look at shifts in inventory levels to determine whether to extend the production cut. A number of OPEC members, and non-OPEC players who agreed to slash output, have also been hesitant about whether they will continue to curb output during the second half. But the messages have been contradictory, with others emphasizing the importance of continuing the framework of the cut in order to support prices and draw down global stocks.

IPO next year?

The old adage “no pain, no gain” applies to Saudi Arabia while undergoing this massive change to its economy with Vision 2030.

Falih told the audience that the much-hyped Saudi Aramco IPO is still on track to be launched next year. However, he noted the number of obstacles for the IPO, not least those in the Kingdom who are resistant to change. The old adage “no pain, no gain” applies to Saudi Arabia while undergoing this massive change to its economy with Vision 2030. Falih, admitting the country is “overly dependent” on oil revenues, sees the reforms as a way to diversify the economy and provide a plan to build a strong middle class. One other issue is where the Saudis would list Aramco shares. One place would be on the Saudi stock exchange, but they are looking for additional venues. It’s unclear whether Western exchanges such as the NYSE may balk at listing the Aramco shares given the country’s participation in OPEC.