The new OPEC + oil deal is an extraordinary agreement. Not only that, but oil exporters have also agreed to an unprecedented volume of production cuts that are several times higher than previous quotas. So also the breadth of coverage has increased. For the first time in history, the US and five other non-cartel countries joined OPEC+. Why didn’t oil soar to $ 60?
OPEC+ countries agreed to reduce oil production by 10 million barrels per day in May-June 2020. This means that all countries will reduce 23% of their production. From July to December 2020, the reduction will be 8 million barrels per day, which means that each member of the production will decrease by 18%. And in 2021 and until April 2022 – by 6 million barrels per day from OPEC+ countries, or 13.8%. Gradually, OPEC+ members will loosen the reins on reducing production, as they hope for a recovery in oil demand, thanks to the improvement of the situation with the pandemic.
Moscow considers the OPEC + deal to have been completed.
“President Putin is very positive about the agreed document, which was a compromise of the 22 countries that took part (in the negotiations),” said Dmitry Peskov, a spokesman for the Russian President. According to the Kremlin, the OPEC+ decision will have a positive, stabilizing effect on world energy markets.
What was revolutionary was the accession of six oil-exporting countries to this deal, which have never participated in the regulation of the oil market with OPEC until now. Canada, the United States, Norway, Colombia, Brazil, and Argentina should reduce production by 5 million barrels per day. This was the first time in history.
“In words, this looks like an absolute revolution in mining coordination. This is unprecedented in both the depth of production cuts and the breadth of coverage. However, the situation of a collapse in demand required just such extraordinary steps, ” says Alexander Kuptsikevich, a leading analyst at FxPro.
For comparison, under the previous OPEC+ deal, it was about reducing oil production by just 1.8 million barrels per day by all members of the organization, along with Russia (formally not a member). Now it is expected to reduce production by a total of 15 million barrels per day. The 22 OPEC + exporters involved in the previous deal are now joined by six more players.
However, Vasily Tanurkov, Director of the ACRA corporate rating group, believes that
they didn’t make it to the revolution, although this is undoubtedly an extraordinary event, provoked by extraordinary circumstances: it’s just that countries like the United States, Canada, and Norway didn’t have much choice.
The main disadvantage is that for the six non-OPEC + oil exporters, this agreement is not legally binding. And if they break their promises, the whole deal will go to hell. If these six countries start to increase production, and this temptation will arise when oil prices rise, then OPEC+ members may refuse to comply with the agreement. This is the fragility of such a unique agreement of oil-exporting countries.
“They were stowaways, and they still are. All right, America hasn’t yet agreed to binding restrictions. They have the dollar as a reserve currency that they can print endlessly to support their companies, they have the technology for oil production, and they have the ability to impose sanctions right and left against those who disagree with them. But is Brazil a country with a super-strong economy? Why does Brazil think it should be out of the deal? Except for arrogance, this can not be explained, ” – said Stanislav Mitrakhovich, a senior researcher at the Financial University under the government of Russia and a leading expert of the national energy security Fund.
According to him, in addition to the fact that the new participants may not reduce production, when the coronavirus ends, the situation improves and oil prices begin to rise, OPEC+ members will still be bound, and stowaways will not.
“The huge number of participants is both a strength and a weakness. Now the market will face the risk that a demarche or “different opinion” of one of the parties may ruin the whole deal, ” Kupcikevich notes.
Tanurkov does not rule out that the new countries will refuse to make cuts in 2021 after the market stabilizes.
However, this deal has undeniable advantages. The main advantage is that even if this deal did not exist, the need to remove the volume of overproduction would not go away. “If not for the deal, in a few weeks or months we would still hear that different countries, including Russia, are reducing production. This would have been unavoidable since there would have been no space left in the storage facilities for fuel,” says Mitrahovich.
The second plus is that without a deal, the price of oil, which is already held at catastrophically low levels of 25-30 dollars per barrel for Brent, would fall even more – to 10 dollars or lower, the expert adds.
New participants such as the United States, Canada, and Brazil also had little choice: you could either join the deal and reduce production, and thus support prices, or not join the deal – but still reduce production, only at lower prices, and therefore with worse consequences for your own oil industry, says Vasily Tanurkov.
How the deal works will depend on many factors. It depends on when the epidemic ends and importers begin to restore demand. It depends on how honestly the participants of the transaction will comply with it. At the same time, the volume of overproduction in the near future may grow from 10-15 to 26 million barrels per day. This means that the reduction in the deal will not cover all the drop in demand. Therefore, the markets reacted poorly to the completion of the transaction. Oil did not rise to $ 60 per barrel, and the ruble did not strengthen to $ 63 per dollar. They are still in the red zone. However, on Friday, oil was not traded on most world exchanges, so a slightly more positive reaction may follow on Monday.
However, against the background of the collapse of the world economy and forecasts for a very gradual return to life, it is pointless to think about a steady return of oil to $ 60 per barrel, Kuptsikevich believes.
“In the short term, the oil market will still have a very significant excess of supply, and fuel reserves will continue to grow until July 2020. Therefore, while oil prices will remain under pressure, and a significant increase in prices is possible only as the quarantine regime is lifted and global demand is restored, ” says Vasily Tanurkov.
According to his forecast, Brent oil prices will remain under pressure over the next three months, but the long-term picture looks much more positive. If the OPEC+ countries continued to increase production, the average annual price of Urals in 2020 would be at the level of 25 dollars per barrel, and in 2021, prices would remain quite low – about 35 dollars per barrel. However, thanks to the deal, we can expect that this year on average will be 35 dollars per barrel or even higher, and in 2021, the oil will grow to a more comfortable 50 dollars per barrel or higher, predicts Vasily Tanurkov. Moreover, it proceeds from the fact that in 2021 OPEC+ will review the volume of reduction of 6 million barrels per day in the downward direction.
In other words, without a deal, Russia would have to live for two years at $ 25-35 per barrel, which is even lower than the $ 40 per barrel budgeted for. This would mean no additional income from oil exports, a budget deficit, and the need to spend the accumulated reserves of the national welfare Fund. The ruble, in this case, could cost up to 100 rubles per dollar.
The deal will allow us to reach the growth trajectory next year.
“An increase in oil prices to $ 35 per barrel in average annual terms will give the Federal budget about 1 trillion rubles of oil and gas revenues compared to the scenario without signing a deal when oil on average costs $ 25 per barrel”,
– notes Dmitry Kulikov, Deputy Director of the ACRA group of sovereign ratings and macroeconomic analysis.
Following the rise in oil prices, we can expect a strengthening of the ruble. “But this strengthening will not be as strong as one might expect. Because the decline in oil exports will restrain the growth of foreign exchange earnings, which will be traded on the domestic foreign exchange market, ” Kulikov explains.
Expect a return of the ruble back to 63 per dollar in the foreseeable future is not worth it. More than adequate for the current macroeconomic picture is the corridor of 70-80, says Kuptsikevich. The outflow of foreign investment and falling demand for Russian raw materials will limit the recovery of the ruble to the levels that were at the beginning of 2020, he adds.
As for Russian oil companies, the profitability of the largest players will decrease this year, but in general, the oil and gas sector will remain financially stable, Tanurkov estimated.