Alaska North Slope crude jumped 4.5% to close at a post-COVID high of $53.71 per barrel Jan. 5 after Saudi Arabia made a surprise announcement that it would unilaterally cut oil production by 1 million barrels per day starting in February.
The Kingdom’s move was in response to concerns that recent spikes in COVID-19 cases pose a threat to global oil demand in 2021.
“We do that willingly and we do that with the purpose of supporting our economy, and the economies of our colleagues,” Saudi Minister of Energy Prince Abdulaziz Bin Salman said in a press conference. “We did not ask any country to come forward and do any cuts.”
Prior to the Saudi announcement, oil prices had already moved sharply higher on news that the Organization of the Petroleum Producing Countries and its allied producing countries agreed to a deal to hold production steady in February, after a 500,000-bpd hike in January.
Brent crude and West Texas Intermediate closed 4.6% higher Jan. 5 on the news. Brent ended the trading day up $2.51 to $53.60, while WTI gained $2.31 to $49.93. ANS gained $2.43.
Oil prices had slipped Jan. 4, after the group, known as OPEC+, adjourned for the day its 13th OPEC and non-OPEC Ministerial Meeting without reaching an accord on production levels.
A handful of producing countries went into the meeting with hopes for moving production higher.
Russian Deputy Prime Minister Alexander Novak said at a Moscow press conference Dec. 25 that Russia would support a new supply increase beginning in February of 500,000 bpd. Reportedly, United Arab Emirates also favored the increase but most of the other OPEC+ members were in favor of standing pat in light of coronavirus worries.
When the OPEC group reconvened Jan. 5, it adjusted its allocations to free Russia and Kazakhstan to move their own production slightly higher in February and March, according to a table of voluntary production levels released by OPEC. UAE’s production share was not modified.
The net result of the modifications raised February OPEC+ oil production by 75,000 bpd above January levels, according to a post-meeting OPEC release. In March, the group’s production level will increase an additional 120,000 bpd over February levels.
Motives, opportunity; possible serendipityOPEC commended its Declaration of Cooperation participating countries for undertaking the largest and longest crude oil production adjustments in history in response to the pandemic, noting that high conformity levels contributed significantly to market rebalancing and stability.
The goal of the DoC, OPEC said, was a stable market in the mutual interest of producing nations; the efficient, economic and secure supply to consumers; and a fair return on invested capital.
But the cartel cautioned that rising infections, new stricter lockdown measures and growing uncertainties have resulted in a more fragile economic recovery that is expected to carry over into the new year.
“The meeting recognized that market sentiment has been buoyed recently by vaccine programs and improved asset markets, but underscored the need for caution due to prevailing weak demand and poor refining margins, the high stock overhang and other underlying uncertainties,” OPEC said.
The cautionary tone of the OPEC meeting set the stage for - and likely reflected the thinking of - Saudi Arabia in announcing its unexpected production cut.
The Saudi move was bold; potentially risky; but opportune, according to Bjornar Tonhaugen, Rystad Energy head of oil markets.
“A proposed unilateral cut by Saudi Arabia from February is a groundbreaking statement that shows the oil giant is not only ready to bite the bullet and keep taps tight, but it also recognizes the short-term demand risk and is ready to protect its export prices by tightening supply,” Tonhaugen said “However, it is indeed quite shocking that Riyadh is proposing to cut its output, as it could effectively mean that is willing to forego market share.”
Tonhaugen said the Saudis risk losing credibility “to their harsh rhetoric in their one-for-all, all-for-one mantra” since the historic OPEC+ production cut deal was struck in April.
The Saudi cut may also be partially motivated to avoid an oversupplied market during the February and March period when refiners typically enter maintenance, he said.
Political implications may have factored into the thinking of the Saudis, according to Goldman Sachs analyst Jeff Currie.
“Look at the detente in the Middle East with the recent overtures between Saudi Arabia and Qatar - there’s real reasons they want to support bringing these groups back together,” Currie said Jan. 5, adding, “I think, more importantly than the motivation behind it is what does this mean for fundamentals?”
One, it neutralizes demand weakness in the first quarter, second, it sets OPEC up to “fall behind the curve” entering the second quarter, he said.
“You get these vaccinations pushing jet (fuel) demand up; they’re now behind over 3 million bpd and they’re going to be playing catch up over the course of the third quarter - so this really does tee up for a much tighter market as we go into second and third quarter.”
The setup is bullish for crude prices, Currie said, adding that Goldman Sachs maintains its $65 per barrel price target for 2021.
Currie said oil may find itself riding a general commodity boom, to higher prices still.
“Look at copper, gold and the rest of the commodity complex and you have all the tell-tale signs of a commodity super-cycle, driven by this reflation feedback loop. It may mean a weaker dollar putting upward pressure on oil and commodities,” Currie said. “Higher oil and commodity prices in turn lead to more global liquidity which increases demand in emerging markets and it just cycles between dollar, oil, and emerging market growth.”
You see a feedback loop, he said. “It worked in the 2000s, it worked in the 70s, and going back since November it’s been at play and that’s reinforcing these higher prices we’ve been seeing.”