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OPEC+ Is On Track to Hibernate

Julian Lee
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OPEC+ Is On Track to Hibernate

(Bloomberg Opinion) -- In less than two weeks, OPEC and its allies are due to meet to decide on the next phase of their deal for managing the supply of crude oil, and therefore its price. Expect them to decide to do nothing for another six months, kicking the can further down the road even though their own forecasts show a need for deeper cuts to balance the market.

Outlooks for supply and demand indicate that they need to reduce output further during the first half of 2020 if they are to keep inventories from building again. But it looks more likely that the group, known as OPEC+, will risk a period of price weakness that they believe will be short-lived, if it materializes at all.

Here's why:

1. U.S. oil production growth is slowing. “We are likely to see sharp revisions of non-OPEC supply going into 2020, particularly from shale basins in the U.S.,” OPEC Secretary-General Mohammad Barkindo said at the Abu Dhabi International Petroleum Exhibition and Conference earlier this month. 

I disagree. The second U.S. shale boom may be coming to an end, but that doesn’t mean supply forecasts will be slashed.

A 2020 slowdown in U.S. output growth has long been anticipated and is therefore already factored into forecasts. What’s more, the extent of the slowdown depends on how you measure it, as the chart of forecasts from the U.S. Energy Information Administration below shows.

The growth initially expected for next year (the blue line) has already occurred (the gray line). The forecast production level for December 2020 is almost identical to that seen back in January, but production at the start of next year is now expected to be almost 800,000 barrels a day higher than initially predicted. When trying to gauge the actual level of production next year, the forecast is now the highest it has ever been, at 13.29 million barrels a day. It will only come down significantly if output actually starts to fall sharply, which is unlikely.

2. Fears around weaker demand growth are easing, with a possible “upswing” in forecasts if the U.S. and China reach an initial trade deal, according to Barkindo. The impact of tariffs on trade is certainly part of the narrative around slowing growth in global oil demand, but it isn't the whole story. 

President Donald Trump certainly has every incentive to secure a deal with China so he can tout a huge success as he embarks on his 2020 re-election campaign. But the International Energy Agency expects Chinese oil demand to rise by only 375,000 barrels a day next year, as growth in demand for fuel to power cars and trucks wanes. That’s the smallest year-on-year increase since the financial crisis of 2008-09. An initial trade deal may come too late to change that picture. On top of that, Europe’s oil use is in decline again, following a pattern that was only briefly interrupted by the crash in prices that occurred in 2014 and 2015.

Even if the external balance between supply and demand doesn’t evolve as OPEC’s secretary-general hopes, there’s a good chance that the group could find itself making cuts by accident, not design.

OPEC’s  “Shaky Six” members are still wobbling and have been joined by a seventh country — Iraq, the group’s second biggest producer.

The government in Baghdad has violently cracked down on demonstrations against corruption and mismanagement. The unrest has not affected oil production so far, but protests have spread to the southern oil hub of Basra and briefly halted operations at two ports. Almost 90% of Iraq’s oil exports come from fields in the southern part of the country and could be at risk if the unrest spreads. In neighboring Iran, output is already crippled by U.S. sanctions on exports and couldn’t fall much further even if recent protests there were to flare up again. Venezuela is in a similar position with little room for output to fall further, even as protesters stage their biggest protest against President Nicolas Maduro in months.

Libya’s civil war rumbles on and oil production could be at risk if export terminals come under attack again. Protesters in neighboring Algeria are demanding a complete change of the political elite months after President Abdelaziz Bouteflika resigned amid widespread demonstrations. Nigeria is still beset by the theft of oil from pipelines, which has caused exports of key grades to be halted several times this year. Production in Angola is drifting lower amid a lack of investment in new projects, with planned exports this month the lowest in at least a decade. 

With so much uncertainty, OPEC+ oil ministers will have little difficulty in convincing themselves to extend the current arrangement until June and to revisit the situation once the winter has passed.

To contact the author of this story: Julian Lee at jlee1627@bloomberg.net

To contact the editor responsible for this story: Melissa Pozsgay at mpozsgay@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Julian Lee is an oil strategist for Bloomberg. Previously he worked as a senior analyst at the Centre for Global Energy Studies.

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