Oil markets on Friday had something to look forward to this weekend – the Organization of the Petroleum Exporting Countries met at the modest Hofburg Palace in Vienna to discuss quotas, prices and the general meaning of life. In the end, even though countries such as Algeria and Libya had signaled the need for further production cuts in the days leading up to the meeting, OPEC balked, and left production levels alone.
With the decision made Sunday, OPEC is counting on the previously planned cuts to make a difference in oil prices as the effects slowly travel through the system. Back in December, the members of OPEC agreed to the second of two production cuts, totaling 4.2 million barrels per day based on September 2008's output. At Sunday's meeting, OPEC was much more concerned with compliance with those cuts than with cutting production any further.
At this point, OPEC estimates that they have roughly an 80% compliance rate to the production quotas that were set back at the end of 2008. That means approximately 80% of that 4.2 million barrels per day (or 3.36 mb/d) are not being produced, out of a peak 32 mb/d at OPEC's peak production:
It's worth noting that these cuts put it back around 2002 production levels (29 mb/d), an anomalous year. More realistically, production in the 27 mb/d range sends us back to the mid-90s. Kind of like the stock market.
It is thought that some countries, such as Saudi Arabia, have cut more than required, and others still have cuts to make. But of course, a lot of these numbers are estimates, and all analysts have their own estimates on how good compliance really is. From an article by Rachel Ziemba, an analyst with RGE monitor:
"Compliance has been good among the other Gulf Arab countries, the UAE, Kuwait, and Qatar, all of whom are estimated to have implemented around 85% of their agreed output cuts. After that, the Nigeria and Libya have implemented 60-70% of the cuts, while compliance by Algeria and Angola (the newest OPEC member) is estimated to be between 50-60%. And bringing up the rear – Iran, Venezuela and Ecuador are expected to have implemented only 40% of the cuts."
Most analysts agree that an 80% compliance rate is considered quite good compared with compliance to earlier cuts.
So here we are, OPEC producing about 3.36 million barrels per day less currently than it was in September – and oil prices have settled into a somewhat steady level of $35 to $45 per barrel.
OPEC members can't be happy about that – but they are in some ways stuck between a rock and a hard place. Yes, oil prices are low, but they could be worse. Compared to December 22's closing price of $30.81, Friday's close at $46.25 is manna from heaven. And yes, the countries would love to see higher oil prices – in fact, many of their budget projections call for oil above the $50 mark. But demand is surprisingly low ...
There's also a bit of self-serving altruism here. Given the economic times, higher oil prices could spell further economic disaster. That's not good for anyone, and it could kill demand longer term.
Since the market has already priced in the 4.2 million bpd cut, if OPEC can get all of its member states to comply, supply should tighten up, and that might nudge up prices without making OPEC look like even more of a global bogeyman. A recent article by Reuters states:
On the basis of the IEA's current market snapshot, full compliance would take OPEC output a hefty 1.6 million bpd below 2009 demand for the producer group's oil, the IEA, which represents consumer nations, said in a monthly report.
"Our view is that OPEC's current targets, if they comply with them fully, will begin to tighten the market quite sharply from late in the second quarter," said David Fyfe, head of the oil industry and markets division at the IEA.
OPEC supplies about 40% of the world's oil, with Saudi Arabia as the largest producer. The second-largest oil producer is non-OPEC member Russia. 40% is a large amount of oil under OPEC control, but the point is that there's still a lot of global production OPEC can't touch.
But Russia too is cutting production. The Russian Deputy Premier Igor Sechin said that Russia would cut oil exports, along with expanding oil refining and increasing domestic consumption. Russia will also be delaying bringing new supply online by delaying development of two oil fields. He also told OPEC that production had already decreased by 1.9% for January and February of this year. But there is some doubt that those decreases were intentional – consensus among analysts is that the decrease is all about decaying infrastructure. It's really the classic unintended consequence of low prices – nobody wants to invest.
Even if it is just spin, with Russia looking to make nice with OPEC, European countries may start getting jumpy. Russia has shown a predilection for using oil and gas exports as political levers, and this theoretical alignment with OPEC may mean Russia's export decreases take on a stronger meaning besides just helping to support oil prices.
But then again, a 1.9% decrease in supply from Russia just isn't that much when the IEA has lowered global demand to 84.4 million barrels a day -1.5% less than 2008. It was the seventh month in a row that the IEA has lowered its demand forecast, calling the demand collapse "staggering."
So that's today's picture: a glut in worldwide stocks; real, meaningful declines in demand; cuts already in place. It's hard to make a short-term prediction that's not "more of the same." Until stocks come down and demand picks up, there doesn't seem to be the political will even on the part of the world's largest producers to close down the pipes to bring up the world price of oil.
Source: Hardassetsinvestor.com (by Julian Murdoch)
