Opec turns on the taps again
Oil cartel Opec's decision to raise production was seen as bullish for the oil price, even though a lot more crude is heading to market.
Few expected last week's Opec meeting to amount to much. In the run-up, the oil exporters' cartel was at loggerheads, while Donald Trump was shouting from the sidelines. The president was berating Opec for cutting output and keeping oil prices and hence US petrol prices high; in the meantime, Iran, which accounts for 12% of the group's output, was strongly opposed to top producer Saudi Arabia's plan to raise production, largely because new US sanctions mean it will have trouble cashing in.
So the fact that the cartel "came together in the end" was seen as bullish for oil, says The Wall Street Journal's Spencer Jakab. Prices bounced, even though the upshot is that "a lot more crude is headed to market". Opec said it wanted to raise production by around 700,000 barrels per day (bpd); throw in a production boost from Russia, and the total output increase will probably be around one million barrels per day.
Output cuts mopped up the glut
Oil prices have surged by 160% since early 2016, when they dipped below $30 a barrel. Having flooded the market with oil in 2014 to bankrupt the emerging US shale industry, Opec abandoned that mission as shale producers cut costs and survived; sliding oil revenue was also hurting the cartel members. A deal with Russia to cut output and raise prices mopped up most of the glut and propelled Brent crude over $70. Now they want to "take the heat out of prices", says Liam Halligan in The Sunday Telegraph. Nobody wants a repeat of the oil spikes of the 1970s and 1980s, when high prices caused global downturns. They also want "to dent the profitability" of US shale drillers, to whom they have lost market share. The shale sector has expanded on the back of higher prices in the past two years. US output jumped by 6% in 2017, eclipsing 13 million bpd more than both Saudi Arabia and Russia.
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Will prices now fall?
While more oil is on the way to market, a sudden reversal of the oil bull market is not on the cards. As Louis-Vincent Gave says in a Gavekal Research note, demand is rising by about 1.5 million bpd a year, which suggests it could soak up the Opec-Russia rise with room to spare. Furthermore, predicting Opec output is never an exact science and especially not now, as Venezuela's meltdown is badly damaging oil output. The extent to which US sanctions will remove Iranian crude from the market is also unclear.
Note too that while US shale drilling is becoming more efficient and cost-effective all the time, a lack of local pipeline capacity in a key oil-producing area, the Permian basin, will temporarily dampen production. Don't expect "the next surge in output" to reach the market before 2019, says Nick Butler in the Financial Times. However, at that point downward pressure on prices will mount. By 2023, according to one estimate, the US will be exporting four million bpd, soaking up the expected increase in demand. By that stage, Opec and Russia will be struggling to pre-empt another sharp price slide.
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Andrew is the editor of MoneyWeek magazine. He grew up in Vienna and studied at the University of St Andrews, where he gained a first-class MA in geography & international relations.
After graduating he began to contribute to the foreign page of The Week and soon afterwards joined MoneyWeek at its inception in October 2000. He helped Merryn Somerset Webb establish it as Britain’s best-selling financial magazine, contributing to every section of the publication and specialising in macroeconomics and stockmarkets, before going part-time.
His freelance projects have included a 2009 relaunch of The Pharma Letter, where he covered corporate news and political developments in the German pharmaceuticals market for two years, and a multiyear stint as deputy editor of the Barclays account at Redwood, a marketing agency.
Andrew has been editing MoneyWeek since 2018, and continues to specialise in investment and news in German-speaking countries owing to his fluent command of the language.
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