Oil – Translating al-Naimi

Published on February 24, 2016

The volatility in oil prices in the wake of the way Saudi Oil Minister Ali al-Naimi’s remarks in Houston at the annual IHS CERAWeek conference have been reported warrants a few brief points to clarify the intended Saudi messaging.


*** Al-Naimi most assuredly was not ruling out an eventual agreement to cut oil output, but rather that to expect an immediate output cut was unrealistic when there is so little trust all the major oil producers “that count” would be disciplined enough to maintain a lower output. That is why, as we have been writing (see SGH 2/16/16, “Oil: Another Step Towards Output Deal”), the current production freeze was but “the beginning of a process” that, through a series of “trust-building” actions, is meant to culminate in an agreement to cut oil output that would soak up the current supply glut most estimate at just over 1 million bpd. ***


*** In the meantime further evidence of the building domestic financial pressures on the Saudi rulers came yesterday in the Ministry of Finance’s decisions to issue sovereign floating notes rather than the more usual fixed rate paper in order to avoid locking in the higher borrowing costs amid the uncertain budget outlook. That was accompanied by a further relaxation in the loan to deposit ratios for the domestic banks to 90% from 80% (from only 60% not too long ago) in order to counter rising domestic riyal illiquidity, and in response to private sector capital outflows. ***


Adapting to “Changing Market Dynamics”


“This is not the 1980s,” al-Naimi said in his prepared text, in which Saudi Arabia was the swing producer cutting output by millions of barrels per day to quickly prop up high prices; it is a “much more sophisticated and complex” market now and these “changing market dynamics” mean a balance in the oil market supply and demand will require a longer, more patient approach, and one that in the near term, may require a bit more pain for the high cost, low efficiency producers — whether the US shale producers, other OPEC producers, or the Russians, whom were in fact al-Naimi’s real target (see SGH 2/19/16, “Oil: An Output Deal and the Riyadh-Moscow Axis”).


Al-Naimi also hinted at a possible OPEC ministerial meeting in March, perhaps after the OPEC technical meeting and a scheduled joint IEA-OPEC meeting to discuss the the oil market’s supply and demand balance. We had flagged the prospects for such a meeting, and suspect that if the full ministerial-level meeting came about, it would be to formalize a broader participation in the output freeze already agreed by Saudi Arabia and Russia, joined so far by Qatar, and Venezuela, with Iraq announcing yesterday they are game as well.


He even made a passing reference in one of his remarks to the press that the oil output freeze only applied to the “countries that count,” which was intended as something of an oblique reference to Iran’s implicit exemption from the current output freeze. That it was said in a way that could be taken as a dig at Tehran (i.e., Iran doesn’t yet rank among the oil producers that “count”) even showed a sense of Riyadh humor.


And a Bad Persian “Joke”


To that, reporting of comments citing Iran’s Oil Minister Bijan Zanganeh as calling the suggested output freeze “a joke,” which also hit oil prices hard, are widely off the mark as well, in that the actual message from the veteran Oil Minister was that any output freeze that would assume Iran freezes its output at post-sanctions levels is a joke.


But that is not really at issue. While Riyadh would certainly not mind in a  theoretical world to lock in their post-sanctions production levels and freeze Iran in at those lows, the real question at hand has been how to manage the pace of Iran’s return to markets (see SGH 2/16/16, “Oil: Another Step Towards Output Deal”).


And in acknowledgement of Iran’s negotiating point Oman’s minister of Oil and Gas, Mohammad bin Hamad al Rumhy, just today joined the chorus openly suggesting Iran be exempted from an output freeze pact, and helpfully offering a cut of 10% from Oman to boot if and when talks turn to that.


We would point out that while Oman’s offer to cut may not move the needle by much for the barrel counters, Sultan Qaboos and Oman have traditionally played a key political role in back channel discussions with Iran, including in the nuclear negotiations between the US, P5+1 and Iran.


Al-Naimi’s Warning


There was also nonetheless a less than subtle threat in al-Naimi’s remarks which the press did pick up on and chose to run as the main takeaway from the Saudi oil minister’s remarks through the day: if the major oil producers, both OPEC and non-OPEC, fail to find the discipline over the coming months to implement and maintain modest production cuts, then “balancing supply and demand should be left to the market.”


If the high cost shale producers or the inefficent OPEC oil producers fail to cut their costs and improve their efficiencies, well, good luck. But expecting the efficient producers to cut their output simply to make room for the high cost, inefficient producers would only delay “an inevitable reckoning.”


Ultimately, though, the intended takeaway from al-Naimi’s day’s worth of remarks to the gathered industry was, we believe, to reaffirm the shift in Saudi oil strategy (see SGH 1/15/16, “Saudi Arabia: Riyadh’s Strategic Gambit”), namely, that for the first time since November 2014, the oil price does now matter to the Kingdom of Saudi Arabia, and that its royal leadership is willing to adjust its 16 month old market share strategy — if the other major oil producers do indeed share in the burden this time.

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