Crude oil prices looking for direction amidst opposing forces

Crude oil prices have recovered slightly since September 27, after the Organization of the Petroleum Exporting Countries (OPEC) announced its first planned output cut to limit its production to a range of 32.5-33.0 million barrels per day (bpd) in order to rein in a global supply glut that forced crude to crash from over $100. Despite OPEC’s expressed desire to cut output, latest report show that the cartel’s September production output at eight-year high of 33.24 million bpd.

Oversupply helped send oil prices from $115 a barrel in June 2014 to sub-$30 in January this year. Prices tumbled after OPEC, led by Saudi Arabia, adopted a policy of pumping without limits to try to squeeze higher-cost production, including some US shale output, from the market.

However, crude oil price has since recovered to around $50 on expectations of a production cut. But even if OPEC finally reaches an agreement in November, there are still some serious barriers to further significant gains. There are indications that the US Shale production is viable at around $50, which in turn means that any action by OPEC will have a limited effect. The higher prices will encourage Shale production, which in turn drags the price back down again.

The possibility of an OPEC agreement to freeze production and the US Shale readiness to increase production at prices above $50, are effectively annulling each other out leaving crude oil prices looking for direction.

Oil market may rebalance faster

The International Energy Agency (IEA) said global oil supply could fall in line with demand more quickly if OPEC and Russia agree to a steep enough cut in production, but it is unclear how rapidly this might happen.

The IEA said in its August report it expected world oil demand to grow at a rate of 1.2 million bpd next year, keeping its forecast unchanged from last month, but cut its estimate of growth in 2016 by 40,000 bpd to around 1.2 million bpd, from around 1.3 million bpd last month.

“If OPEC sticks to its new target, the market’s rebalancing could come faster. At this stage, it is difficult to assess how the OPEC supply cut, if enforced, will affect market balances,” IEA stated.

“A significant rebound in production from Libya and Nigeria and further growth from Iran would suggest that bigger cuts would have to be made by others, such as Saudi Arabia, to meet the … production target.” the agency added.

Iran is recovering market share after years of Western sanctions, in Libya, civil unrest has cut production and a series of attacks on oil infrastructure have curtailed Nigerian supply. All three are expected to be exempt from any coordinated cuts, meaning that the onus will likely rest on some of the higher-producing members, such as Saudi Arabia and Iraq.

Can Saudi Arabia be trusted?

Saudi Arabia, the world’s largest exporter, is the OPEC member with the greatest flexibility in its production. Any OPEC production cut without Saudi leadership would lack credibility. But in this case, can Saudi be trusted?

When the Russians met with Saudi Arabia and also with representatives from Qatar and Venezuela in late February this year, they proposed a freeze in production, but no production cut.

In early March, the Russians announced that their oil companies agreed to a freeze in production. However, in late March, the Saudis announced that they would also freeze production even if Iran would not commit to a similar freeze.

In April OPEC and other producers met and discussed a freeze which was never implemented. The record of Saudi announcements and actions suggests they may not be serious. In fact, shortly after the recent announcement that OPEC would be cutting production, Saudi lowered prices for its crude, a move not consistent with its stated aims.

US Shale oil output seen surging

Prices at $60 a barrel would probably trigger a strong increase in North American oil output, the head of the International Energy Agency said, Fatih Birol, IEA Executive Director said.

If prices reach $60 and stay there, US shale drillers could find it commercially viable to revive production at some mothballed wells and boost output by more than 1 million barrels a day by early 2018, according to JBC Energy GmbH, Vienna-based consultant.

Some US producers have already stepped up operations. The number of active oil-drilling rigs in the US has climbed for the seventh straight week to eight-month highs from 328 in early May to 428 last week, according to Baker Hughes Inc. The number of active gas rigs rose by eleven, the biggest jump since late January. The gas rig total stood at 105, which is a 10-month high, but 87 rigs short of last year’s 192.

Bjarne Schieldrop, chief commodities analyst at SEB AB bank in Oslo, said he expects the number of active US rigs to rise by about 10 per week until OPEC holds its next formal meeting on November 30.

FRANK UZUEGBUNAM (with agency reports)