Markets must contend with not one but two big international meetings that will serve as catalysts for oil prices – the G20 meeting this weekend in Buenos Aires and the OPEC meeting December 6-7 in Vienna. As a result, we are seeing considerable headline risk surrounding these meetings so let us help you interpret all the noise impacting oil prices.
Over the last two days, we have heard from President Putin and other Russian officials that $60 oil is just fine by them, which suggests that there is no need for an OPEC+ production cut next week.
Saudi Arabia’s Crown Prince Mohammed Bin Salman (MBS) is leading the Kingdom’s delegation to the G20 and has brought Energy Minister Khalid al-Falih along on the trip highlighting the key significance for oil markets.
News reports this week indicate that Minister al-Falih has emphasized in recent days that the Kingdom is seeking to “stabilize” oil prices. Make no mistake: in Saudi speak, “stabilize” in this case means higher prices (in a $75-85 range).
We definitely think the Putin/MBS meeting at the G20 in Argentina will nail down Russia's participation in the OPEC+ cut. Russian production, currently up about 300,000 barrels per day (b/d), is not really sustainable at these elevated levels over the past few months and is already declining. But the Russians are maneuvering to get some additional commitments from the Saudis in exchange for cooperation, perhaps some new investment or collaboration.
From the Saudis perspective, Russian participation and co-leadership is critical regardless of the moderate level of cuts Russia has brought to the table. The Saudis have this viewpoint for public relations purposes mostly because it brings another big non-OPEC producer into the market management business.
However there’s another person who thinks he is also in the market management business and that’s President Trump or “President T” as he recently referred to himself in a tweet taking credit for lower oil prices.
But despite market intervention comments from "President T", we think the Saudis revert to a Saudi Arabia first oil policy (as we wrote in our Saudi Arabia First client note on November 21).
Minister al-Falih is clearly leading the effort to produce an agreement for a collective OPEC+ cut at the Dec 6 meeting in Vienna. We think current low oil prices have made his work much easier and expect wide agreement for OPEC to take action to address its own forecasts of slowing demand growth and a supply surplus in the first half of 2019. At today's prices, even Iran will be supportive of a production cut.
President Trump’s comments and tweets last week about taking credit for lower oil prices and standing by Saudi Arabia and MBS have created a new political risk for oil markets that many traders and analysts find difficult to assess.
The latest risk has nothing to do with fundamentals but rather what one man’s views on non-oil related issues (Khashoggi, Yemen, Iran) have on another man’s decisions about oil policy.
In particular, oil markets have become nervous that Trump’s recent public support for Saudi Arabia and MBS as raising doubts about prior-stated Saudi plans to cut oil production in December and in coordination with the OPEC-plus group. The thinking is that Trump’s support may erode if the Saudis cut production and oil prices rise thus putting the Kingdom in a difficult situation on those non-oil related issues.
We take the opposite view and think that Trump’s strong support gives Saudi Arabia running room to do what it needs to do for its own self-interests on oil market policy. Comments this week from Secretary of State Pompeo and Secretary of Defense Mattis show that the US administration views the relationship with Saudi Arabia as much larger than oil supplies.
Nothing we heard over the last two weeks changes our view that Saudi Arabia will continue with plans to cut production in December nor our forecast of the upcoming December 6 OPEC meeting resulting in a production cut in excess of 1 million barrels per day.
Still unclear is how OPEC will package its cut and what will be its baseline. At current production rates, we could see a massive cut. For example, a news report this week said Saudi Arabia production in November hit a record peak of 11.3 million b/d to meet demand from Iran’s former customers and to demonstrate that it could produce at such a record level.
Due to seasonal demands and previous production rates, it seems hard for us to see Saudi Arabia producing more than 10 million b/d in January. If you accept that Saudi November production was as high as 11.3 million b/d, then we are looking at a cut of 1.3 million b/d from Saudi Arabia alone in January.
No matter how the OPEC production cut is packaged to try to soften the blow for Presidents Trump and Modi, the math will be easy. The only fuzzy math for oil markets to analyze will have to do with US-China trade war implications but perhaps we may get some signals on this situation at the G20 as well.
In the realm of various scenarios, we have been asked by some clients to assess whether OPEC may do nothing at this meeting or perhaps remove production limits to drive down US shale production. Both scenarios to us seem highly unlikely.
First, OPEC is less concerned about rising US shale production than the headlines would have you think. There has been a sea change in this view since 2014. OPEC realizes that shale’s lighter quality is ill-suited for the global or US refining complex. However, it does not mean that OPEC doesn’t realize the headline risk or market perception of rising US shale production.
If you think Trump has been critical of OPEC in comments and tweets, we think you would see many more tweet storms if OPEC actions were seen as causing US shale companies to lay off workers and close up shop.
So OPEC is stuck between the proverbial rock and a hard place. OPEC will be criticized for either path but at least it will benefit from a production cut this time around.
