Are the Saudis about to push the oil price higher? Don’t hold your breath
Oil bulls are hoping that Saudi Arabia will cut production to prop up the flagging oil price. But they're likely to be disappointed, says John Stepek. Here's why.
This has been a pretty good week for oil prices.
The geopolitical turmoil over the downing of a Russian fighter jet by Turkish forces had the sort of effect you'd expect it sent the oil price higher.
But there was a deeper reason for the bullishness. Next week oil cartel Opec meets. And oil bulls are hoping that Saudi Arabia will start to reverse its strategy of pumping till they drop' (they' being the US shale producers).
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So have the Saudis had a change of heart? More importantly, does it matter if they have?
What Opec and central banks have in common
Ahead of next week's meeting of oil cartel members, senior Saudi officials have been saying that "prices fell further than they ever anticipated remarks that for many in the oil market imply the Opec kingpin wants the year-long oil rout to come to a close."
They've also been warning about the impact of low prices on future investment in oil production. "The scars from a sustained period of low oil prices can't be easily erased", noted the deputy oil minister this month.
Given that the perceived aim of the Saudis is to hit production by other providers US shale producers specifically any sign of concern about the effect of low prices on investment is taken as a hint that they're no longer comfortable with the current price.
While they haven't been talking openly about reversing their current policy of keeping the pumps open, apparently "behind closed doors they say they want prices to stabilise between $60 and $80 a barrel".
So does this mean we can expect a big shift at the next Opec meeting?
The answer is probably not'. In this context, it's worth thinking about Opec in the same way as you might think about a central bank policy-making committee. Both are massive though not monopoly providers in their own markets. Opec is a big oil producer; central banks are big money producers (though commercial banks create money too). So their intentions matter as much as their actions.
Mario Draghi over at the European Central Bank has got the markets cheerily expecting a new flood of printed money next week, and has influenced their behaviour as a result. The same sort of thing applies to Opec.
They don't have to cut output to have an impact on the market's expectations. Instead, the hint that they might be thinking of changing policy can start to shift expectations. As Ole Hansen of Saxo Bank tells the FT, they're trying to make a "verbal intervention" in the market.
But it's also about politics which is where Opec differs greatly from central banking committees. Central bankers don't tend to see a lot of dissent when they decide to raise or lower interest rates. Opec, on the other hand, is quite different. A lot of members don't like one another. Some such as Venezuela desperately need much higher oil prices, and so are keen to slash production.
By talking as if it's thinking of changing its mind, Saudi Arabia can appease the more panicky Opec members while sticking to its guns.
What does this mean for the oil price?
However, it might not matter in any case. As HSBC senior economic adviser Stephen King tells Bloomberg, there's a demand story here too.
"If you look at the path of oil prices, the surprises to oil prices over the last 15-20 years, they closely correlate to the waxing and waning of the Chinese economy. The China slowdown is probably the biggest single influence that is depressing oil and other commodity prices."
King makes the other point which is frequently forgotten that Opec doesn't have the sort of deity-like power over the oil price that many believe. Output was cut during the price slump "in the mid-to-late 1980s and prices didn't go up."
China's economy might be turning around now. But the sort of demand surge that we saw in the decade leading up to the financial crisis is unlikely to be repeated.
In short, I'm not betting on oil prices collapsing to $20 a barrel it's possible, but it's also hardly a contrarian call. However, it's hard to see prices rocketing back to that $60-$80 comfort zone' in the near future either.
There will be opportunities in oil shares as the capital cycle' turns though as companies slash investment and become leaner and meaner again. In next week's issue of MoneyWeek magazine, we've got a very interesting piece on how this is currently happening in a very different industry gold mining. You don't want to miss it if you're not already a subscriber, sign up now.
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John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.
He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.
His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.
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