Nations representing almost 60%of the world’s oil production will gather in Doha on April 17 to discuss "freezing their output at January levels" in an effort to stabilize prices. According to Bloomberg, Russia, Saudi Arabia, Qatar and Venezuela made a preliminary deal in February and are seeking to add more producers and extend the recent price recovery, but, despite the exuberant squeeze early this week, oil prices are fading modestly as D(oha)-Day looms.
While the mainstream narrative is that "everyone is short" oil into this decision, Oil ETF shorts hover near 4-month lows and, as Citi notes, and is now beginning to look likely given that there is only an hour allocated for closed door discussions with a press conference right after, if there is no agreement, then expect a sharp oil market sell-off on Monday.
Bloomberg Q&A:
Who’s going?
In addition to the four signatories to the preliminary deal, Algeria, Angola, Azerbaijan, Colombia, Ecuador, Indonesia, Iran, Iraq, Kazakhstan, Kuwait, Mexico, Nigeria, Oman and the United Arab Emirates will attend.
Who’s not attending?
Some of the world’s biggest producers including the U.S., Canada, China, Brazil and Norway won’t be showing up. Among the 13 nations in the Organization of Petroleum Exporting Countries, only Libya -- whose output is crippled by conflict -- has ruled out going to Doha. The key OPEC member resisting a production freeze is Iran. While it will send a representative to observe the discussions in Doha, Iran has insisted it won’t constrain production before restoring output to pre-sanctions levels.
How likely is an agreement?
Forty traders and analysts surveyed by Bloomberg this week were evenly split on whether there will be a deal. While Russia’s Energy Ministry is “optimistic” and Qatar’s has a “positive feeling,” Saudi Arabia has said it will only cap its output if Iran follows suit -- a notion Tehran has dismissed as “ridiculous.”
What impact would a freeze have on oil prices?
Crude has rallied more than 30 percent to above $40 a barrel since the preliminary freeze accord in mid-February prompted a shift in market sentiment. A final accord could lock that gain in place, or even extend it to $50, said Bank of America Corp. Yet a freeze will do little to mop up the glut because Saudi Arabia and Russia -- the world’s biggest crude producers -- are already pumping near record levels. Morgan Stanley said “our downbeat oil view is unchanged” by the prospects of a freeze.
How much oil supply is at stake?
Producers that have confirmed they will consider joining the freeze produce about 47 million barrels a day of crude. Many of those nations were already pumping flat out in January, with little scope for increasing output. Russia and Saudi Arabia both held production steady this year, even before a final agreement to freeze.
Production from the 11 members of OPEC that are backing the agreement is already almost half a million barrels a day lower than January.
Would the freeze make a difference?
With most Doha participants already expected to keep output steady, much more important for the oil market will be what happens in the U.S. and Iran. Declining shale oil production is expected to make up the lion’s share of the 710,000 barrel-a-day reduction in output from non-OPEC countries this year, according to the IEA. Iran plans to increase production by about 700,000 barrels a day this year from the 3.3 million pumped in March.
What would the accord mean for U.S. producers?
Any deal that pushed up prices would be “self-defeating” because it would allow a revival of drilling by U.S. shale producers, who can return to work at $55 a barrel, according to Goldman Sachs Group Inc. That would only postpone the supply curbs analysts say are needed to re-balance overloaded global markets.
How would the freeze be monitored and enforced?
During previous supply cuts, OPEC monitored members’ compliance using data on their production provided by external sources such as news agencies and tanker-trackers. It has no mechanism to punish countries that flout their limits and members habitually exceeded the group’s quotas, before production targets were effectively abandoned in December.
What happened when OPEC last made a deal with non-members?
OPEC has grounds to doubt the sincerity of its partners. The last time it struck a deal with rival suppliers was in late 2001, when Russia, Mexico, Oman, Angola and Norway promised to cut supply by a combined 500,000 barrels a day.
Yet by the middle of the following year, Russia had actually increased output and the only production declines were in Mexico and Norway.
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What if there’s no deal?
With expectations growing over the past week, oil traders embarked on a buying spree that pushed crude to a four-month high. If ministers fail to reach an accord, prices will see a “severe negative impact,” Citigroup Inc. predicts. OPEC’s refusal to cut output in 2014 prompted calls to write the group’s obituary, and an inability to finalize the freeze might see those epitaphs being carved. The ensuing disappointment could drag prices down to $30 a barrel, said Saxo Bank A/S.
If there is no agreement, then expect a sharp oil market sell-off on Monday. If there is an agreement in name but market participants realize it has no teeth, except a slower sell-off. Main oil-producing countries, but especially Russia, have been stirring the market since late 2015 with talks of a potential agreement and the market has responded frequently, creating periodic froth to prices, only to see prices come off when no agreement has been forthcoming. Money manager net (and gross) length is around record highs on ICE Brent, giving some scope for position liquidation following any ‘disappointing’ headlines and adding to downside risk.
Citi continues...
The main unknown going into Sunday is what Saudi Arabia’s position will be.
The world’s largest petroleum exporter has been silent about whether it attends and what position it stakes out. Saudi officials have made two recent public statements over the past two months. At the February CERA conference in Houston, the Energy Minister stated, in defining a freeze, that the Kingdom would always fulfill its customers’ needs, thereby significantly reducing the force of any verbal agreement. Then two weeks ago, in a widely cited interview, the Deputy Crown Prince stated that the Kingdom would not engage in an agreement unless Iran also participated in some way, and Iran has announced that it won’t be bound by any agreement and won’t attend the Doha event. Citi projects that Iran is likely to put close to 1-m b/d of incremental liquids supply into the market over the course of 2016.
Two critical factors are required for an agreement:
- First, the Saudi government has to be comfortable that it will lose no market share as a result of any accord. With Iran raising output this year, any freeze would translate into a loss of market share and would likely be read by the market as a sign that the Kingdom has run out of capacity to increase production. To quell such thoughts, the Kingdom’s marketers have been indicating possible increases in exports to Europe and Asia.
- Second, the ‘elephant in the room’ – the US – has to be brought in to any real deal, and that’s not feasible.
Counting total hydrocarbon liquids, the US has become the world’s largest supplier as a result of the shale revolution, now producing ~14.8-m b/d versus total liquids from the Kingdom of 11.7-m b/d and Russia at 11.5-m b/d. As oil prices rise in the near term, US production, the decline of which since last year is the only critical factor in markets finally balancing, is likely to come back. But US production cannot be controlled by governments. It’s the result of a competitive market with hundreds of companies and tens of thousands of investors making as many decisions. The problem at Doha is that the market has lost its regulator and no agreement is about to bring one back.
Even if there is a deal on paper, there are reasons to doubt its credibility.
The history of these deals has been disappointing, even if the initial rhetoric coming out of the meeting indeed gives the market a boost. Back in 1998-99, Russia agreed to cut its oil production by 7%; the market promptly cheered and prices rallied. But it turned out that Russian production and exports rose in 1999, probably by ~0.4-m b/d; it was only after the fact that the market realized a sizeable cut did not actually take place. In 2001, there was another attempt at coordinated production cuts, with OPEC agreeing to jointly cut 1.5-m b/d but only if non-OPEC participants cut by 0.5m b/d. Russia was supposed to be responsible for 0.3-m b/d of that, but Russia had other ideas – that is, a much smaller cut was realized. Even if Saudi Arabia were to make a conditional commitment to cut, eventual non-compliance would remain a possibility, while the Kingdom would still stand to benefit from initial market euphoria from a deal, which could raise revenue, albeit in the short term.
Simply put, as Citi concludes, Sunday’s producer meeting is all about nothing no matter what agreement might be forged. At best, the agreement will be, as Russia’s energy minister has stated, a gentlemen’s affair, with no binding commitments, no concrete next steps beyond having a review meeting, and no procedure for moving to production cuts.