OPEC: A Pivotal Russian Compliance

Published on March 29, 2017

Crude oil prices enjoyed a bit of a rebound today, mostly on the back of the less than expected build in US oil inventories and renewed chaos in Libya that curtailed exports. But we also expect to see oil prices underpinned by signs of Russian compliance with its promised output cuts.

At least Saudi oil officials firmly believe that will be the case.

*** We understand Saudi oil policy officials have reaffirmed the Kingdom and its key Gulf oil producing allies are highly likely to extend the Vienna agreement on output cuts for another six months, and stand ready to cut output by more in the second half of this year (SGH 3/9/17, “OPEC: Riyadh Likely to Extend Output Cuts”). ***

*** But the Kingdom is putting the onus for extending the Vienna agreement entirely on Russia: the Saudi and GCC commitment is conditional on clear evidence Russia has reached at least 250,000 bpd of the promised 300,000 bpd in output cuts by the time of the next meeting of the five-nation Joint Technical Committee on April 21. ***

*** We do think the Russians will hit their mark in the March production numbers, which should help to underpin rising oil prices as the crude market continues to rebalance through spring. Further support for oil prices stabilizing above $50 a barrel is also likely in ongoing Saudi verbal intervention and hints at additional second half Saudi and Gulf output cuts, if needed. ***

Trust but Verify

Russia’s Energy Minister Alexander Novak told his counterparts on the monitoring committee from Kuwait, Venezuela, Algeria, and Oman that despite technical issues that delayed their efforts, the Russian output cuts had reached 185,000 bpd in February, up from 115,000 in January, and vowed that they will indeed hit the 250,000 mark by the time the March figures are reviewed at the technical committee meeting in late April.

Riyadh sees its alliance with Moscow on oil policy as a cornerstone to its efforts to stabilize oil prices at a $50 to $60 target range over the medium term. But Saudi officials are nevertheless becoming increasingly frustrated with how Russia seems to be dragging its feet on meeting their commitments.

The Saudis made it clear to their Russian counterparts they very much want to see clear evidence of that 250,000 bpd mark in output cuts by the time of the April 23 monitoring committee assessment, which for the Saudis, will be a “trust but verify” moment.

Assuming the quarter million barrel mark in output cuts is achieved, which we think it will, it would pave the way for an extension of the new output quotas and production cuts through the end of this year, and which is likely to include further Saudi trims in output, as well as an additional 100,000 bpd plus in cuts by the major Gulf oil producers, led by the United Arab Emirates.

The full OPEC Ministerial policy decision-making body meets in Vienna on May 25. The next meeting of the monitoring committee meets May 31 in Moscow.

Iraq and Iran Falling in Line

The combined compliance rate of the OPEC and non-OPEC oil producers participating in the Vienna agreement was 94 percent. But the high compliance rate was entirely due to the deeper cuts by the Kingdom and a few of the other GCC oil producers than their quotas. OPEC’s compliance rate was 106% in February, while the compliance by the non-OPEC oil producers, including Russia, lagged considerably, reaching only 64 percent.

Besides Russia, the other laggard that stood out is Iraq. But the Iraqis have vowed the technical and coordinating delays between the differing fields is being resolved and that they too will be at around 187,000 in cuts in March and at or very near their target 210,000 in output cuts by May.

More importantly, Iran has affirmed it will adhere to a production cap of 3.8 million bpd, which the Saudis took as an important statement of intent. Saudi and Iranian cooperation on oil policy seems to be already spilling over into a thaw in diplomatic relations, such as the opening of the Haj to Iranian pilgrims this year.

Confidence in the Iranian commitment to the 3.8 mbpd ceiling is also helped by the sense they have little choice anyway since they are struggling to maintain their current 3.6 to 3.7 million bpd. Iran has been drawing heavily on its floating tanker oil reserves to maintain some of its export sales commitment.

To date, there has been little of the expected investment coming into Iran from the Western energy companies. Adding to the uncertainties of Western oil sector investments is the risk of renewed sanctions being imposed by the Trump Administration.

In contrast to the Iranian difficulties in attracting Western investments, the Saudis are moving ahead with their plans for a partial privatization of Saudi Aramco, announcing a substantial cut in the oil giant’s tax rate to 50% from 85%. The anxieties to ensure the IPO’s success, and the Kingdom’s intention to tap the international capital markets for at least $20 billion a year for the four or five years underscore how badly the Saudis want to see stable oil prices.

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