MAJOR OIL PRODUCERS met in Doha, Qatar on Sunday, April 17, to discuss a possible production freeze. The attempt to coordinate oil supply between OPEC and outside nations failed-no deal without Iran. The world's oil producers did not agree on any terms-not in principal, not on paper.
WTI rose to $42.17 a barrel on April 12, but slid during the three-day period leading up to the meeting, no doubt as hopes for a successful meeting dwindled. There may be some that were surprised by the meeting's outcome, but from what I saw come across my desk, that number is likely small. Here, a quick sampling of thoughts from industry experts.
So, surprised? No, said Thomas Moore, a Houston-based energy partner at Mayer Brown LLP. "At best, I thought that there could be an agreement 'in principle,' but with no detail and no real commitment to compliance. The problem to me all along has been that it is difficult politically for Iran to agree to freeze production at pre-sanction release levels, even if the revenue effect from post-freeze prices stabilizing at somewhat higher levels might equal or exceed the revenues from increased production. After agreeing to the nuclear settlement to get sanction relief, it would be very difficult to agree not to take advantage of that relief at the request of the Saudis."
Ok, so no real commitment expected in his view. Was there hope of anything positive?
"I always thought that the effect of a freeze would be more psychological than real. What the freeze was intended to do (I believe) is to convince the world that as higher cost production declines because of curtailed drilling, the barrels would not immediately be replaced by increased production by lower cost producers like Iraq and Iran. However, I don't think that there is enough discipline in OPEC and the other major lower cost producers to make this happen," Moore said. And that means?
"The result is that the Saudis will continue their strategy of trying to keep prices below the price at which high cost producers re-enter the market, albeit at a lower price than they hoped to achieve with the freeze. The real impact of this will be felt in the US by the small and medium sized independents, and I would expect a significant number of bankruptcy filings for the rest of the year, including filings by some larger, more established companies, because it will be harder for lenders to point to anything in the short and medium term which suggests prices will go up to the point that they will be better off waiting as interest payments are missed and covenants are broken broken," Moore continued.
Similar sentiment was offered by Seaport Global Securities analysts in an April 18 note following the Doha meeting. "We are estimating, at this time, that OPEC could push production as high as 33 MMb/d in Q3:16, after noting that the crude oil balance could tighten up dramatically during Q2:16 and Q3:16. Demand growth could easily decelerate, if prices go up too much; therefore, the bias is very likely going to tilt back to a higher surplus (or, balance) in order to maintain price pressure upon Iran, Russia, and tight oil producers in North America," the analysts said.
But would it have made much difference if there had been an agreement? In a research note April 15, the Friday prior to the Doha meeting, Baird Energy Research's Ethan H. Bellamy called the meeting the "Doha Desert Mirage" before presenting the firm's "pessimistic view of this meeting's impact on market balance based on prior OPEC cuts, the best available "freeze" proxy."
Looking at four prior OPEC cut samples, Bellamy noted that, to varying degrees, there is often "significant front-running as markets turn optimistic ahead of widely anticipated production cut announcements." However, one cut doesn't turn the tide. "Production does not consistently decrease after the implementation of the initial production cut, but, rather, shows more downward consistency following multiple cuts ," he said.
Then, again based on prior OPEC cut samples, Bellamy noted, "price action tended to turn largely positive around two quarters following the implementation of the first production cut. It takes multiple months of consistent production reversal to convince the markets that fundamentals have materially changed."
All that said, "a production 'freeze,' the best historical proxy of which is an OPEC cut, does not on its own lead a rally in the energy complex," Bellamy noted. "Moreover, the more toothless and unenforceable the non-binding freeze agreement, the less likely oil investors and producers will take such an action seriously."
As Bellamy noted, there are many facets to a rally. We may not be rallying, but there are signs of a market rebalancing-mainly at the hands of North America where production will likely continue to fall in response to low oil prices. Such is the reason the selloff in the oil markets following the meeting wasn't any more severe "considering that OPEC once again showed a complete failure of leadership," noted Ole Hansen, Head of Commodity Strategy at Saxo Bank, in an April 18 statement.
At this writing, oil climbed to a five-month high as US production fell to its lowest point since October 2015 by Energy Information Administration calculations. US oil rigs are down to November 2009 levels. That said, the facet that includes production talks hasn't lost its luster. Speculation continues as OPEC members and other producers are said to likely revive production freeze talks-perhaps as this issue hits desks. We'll be watching.
Mikaila Adams | Managing Editor - News
Mikaila Adams has 20 years of experience as an editor, most of which has been centered on the oil and gas industry. She enjoyed 12 years focused on the business/finance side of the industry as an editor for Oil & Gas Journal's sister publication, Oil & Gas Financial Journal (OGFJ). After OGFJ ceased publication in 2017, she joined Oil & Gas Journal and was named Managing Editor - News in 2019. She holds a degree from Texas Tech University.
