The Fuse

What to Watch Heading into OPEC Week

by Leslie Hayward | June 19, 2018

OPEC meets on Friday. Following years of steadily increasing cooperation between the member states and non-OPEC producers, this week’s meeting is one of the most consequential. Oil prices recently touched their highest levels since prices collapsed in late 2014, and OPEC now faces the task of proving to itself and the world that its role as market manager extends beyond cutting supply and driving up prices. The Vienna Group is looking to show that it can function as a benevolent balancing force that keeps prices within a comfortable range that works for both producers and consumers.

Easier said than done. This week’s OPEC meeting proves to be one of the most geopolitically fraught in the group’s history as everything from Iranian sanctions to physical disruptions to President Trump’s Twitter account are major factors.

Two things to question no matter what the outcome: The assumption that a production agreement will benefit the market, and the promise that OPEC can moderate a price spike in the next year.

Two things to question no matter what the outcome: The assumption that a production agreement will benefit the market, and the promise that OPEC can moderate a price spike in the next year. In Barclays’ assessment, OPEC’s supply management is “not an appropriate mechanism to offset geopolitical spikes or to restart the investment cycle,” and describes supply management as “a blunt instrument” to offset disruptions or instill confidence in the medium-term outlook. Meanwhile, in recent notes, Goldman Sachs says it sees significant upside risk to prices in the second half of 2018 and in 2019. Goldman’s analysts write: “Our updated fundamental oil balance shows…that the oil market remains in deficit with resilient demand growth and rising disruptions requiring higher core OPEC and Russia production to avoid a stock-out by year-end.” In Goldman’s view, tightness in the oil market will require additional shale oil supply, which the Permian will likely be unable to provide due to midstream bottlenecks and other constraints.

Russia, Saudi Arabia, and Everyone Else

There is a consensus expectation this week that the Vienna Group will reach some level of agreement to increase output. Saudi Araba and Russia are reported to have achieved a verbal agreement, with Russian Energy Minister Alexander Novak saying last week that the group is eyeing a production increase of up to 1.5 million barrels per day (Mbd). Reports coming out of the “Soccer Summit” last week at the World Cup indicate that the two countries already reached a preliminary agreement to increase output by approximately 300-600,000 barrels per day (b/d) to start.

Two questions linger around Friday’s meeting. First, assuming the Vienna Group comes to an agreement, it’s unclear if the increased volumes will be enough to offset seasonal demand increases and the disruption of supply from Venezuela as part of fallout from the country’s broader economic collapse, and Iran, which faces new sanctions now that the United States has pulled out of the Iran deal.

The second big uncertainty is whether Saudi Arabia and Russia can build a consensus around their proposal when most other OPEC members oppose boosting production to lower prices.

“Three OPEC founders are going to stop it,” Iran’s OPEC Governor Hossein Kazempour Ardebili said in comments to Bloomberg on Sunday, citing Venezuela and Iraq’s positions. “If the Kingdom of Saudi Arabia and Russia want to increase production, this requires unanimity. If the two want to act alone, that’s a breach of the cooperation agreement.”

Twice in recent months, President Trump called out OPEC as responsible for rising gas prices—politicizing Russia and Saudi Arabia’s plans to increase production among other OPEC members.

President Trump has influenced the calculus by criticizing OPEC via Twitter for artificially increasing prices. Twice in recent months, he called out OPEC as responsible for rising gas prices—politicizing Russia and Saudi Arabia’s plans to increase production among other OPEC members.

“We call upon our brothers in OPEC and Russia that we do not need to appease Trump, who sanctions two OPEC founders and also Russia,” Kazempour Ardebili said. “We are sovereign nations driven by our own responsibilities and values. The whole world has to stand against these arrogant attitudes—and will.”

The Sanctions Factor; Venezuela’s Cliff Dive

You have to give Iran credit for consistency: Tehran has been the wrench in every OPEC meeting since the group initiated efforts to renew its formalized cooperation in 2015. Iran’s oil minister Bijan Zanganeh wrote a letter to the UAE Energy Minister Suhail al-Mazrouei, who currently holds the OPEC presidency, stating, “I would like to…seek OPEC’s support in accordance with Article 2 of the OPEC Statute, which emphasizes safeguarding the interests of member countries individually and collectively.” Zanganeh asked Mazrouei to include a separate agenda item for the June OPEC meeting entitled, “OPEC Ministerial Conference support to the Member Countries that are under illegal, unilateral and extraterritorial sanctions.” In a letter of reply, Mazrouei said Iran’s request would be discussed under the “any other business” section of the meeting, failing to add the request as a separate agenda item and potentially encouraging Iran to dig in its heels.

Sanctions on Iran’s oil and banking sector will be re-imposed on November 5th, following Trump’s decision to pull the United States out of the Joint Comprehensive Plan of Action. Iran has increased its production by 1 Mbd since sanctions were lifted, an impressive increase in a relatively short period of time. But it has struggled to attract the international investment it desperately needs for more significant production growth. At this week’s OPEC Seminar, which attracts oil company CEOs and leading analysts, journalists will be keeping an eye on which producers have meetings with the Iranian delegation.

The barrels that renewed Iran sanctions will take off the market is unknown. However, Venezuela has lost 1 Mbd of production since 2016, according to Platts data, and Saudi Arabia’s summer burn increases its domestic oil demand by some 300-500,000 b/d depending on the year. With Russia and Saudi mulling a production increase of up to 1.5 Mbd, even if it’s achieved, very possibly won’t be enough to address the supply shortfall—especially considering the other chaos in the market, such as the physical destruction of Libya’s export terminals, and continued global demand growth. It’s too bad OPEC spent the last two years eliminating the inventory surplus—it might have come in handy this year.

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