Oil Prices Jump on OPEC Output Deal

OPEC members agree to reduce oil output to 32.5 million bpd from current 33.24 million bpd

o1The Organization of the Petroleum Exporting Countries (OPEC), which met on the sidelines of the International Energy Forum (IEF) in Algeria from September 26th-28th, 2016, have agreed to reduce oil output to 32.5 million barrels per day (bpd) from the current levels of around 33.24 million bpd, as reported by Reuters on September 29th, 2016. The move would effectively re-establish OPEC production ceilings that were abandoned over a year ago. However, OPEC will decide on the production levels of each country at its next formal meeting in Vienna on November 30th, 2016. Once production targets are reached, OPEC would also reach out to non-OPEC producers such as Russia for cooperation.

Reacting to the news, crude oil Brent prices jumped to trade above $49 per barrel on September 29th, 2016, up from under $30 a barrel at the start of 2016, but well down from the years when it was above $100 a barrel, before dropping off in mid-2014. This marks the first OPEC deal in eight years; OPEC has managed to reach a consensus for its efforts to rebalance the oil market after more than two and a half years of wrangling. U.S. bank Goldman Sachs Group Inc. (NYSE: GS) said it expected the OPEC deal to add $7 to $10 to oil prices in H1 FY17.o2o3

Iran and Saudi Arabia to consider curbing output

Geo-political tensions between Iran and Saudi Arabia have continued to be the main stumbling block to reaching an oil output curbing agreement among the OPEC nations. At the recent IEF meeting, Iran’s oil minister Bijan Zanganeh said that the government would be willing to consider capping output at 4 million bpd, up from the current 3.6 million bpd. After that condition would be met, Iran would consider a broader deal that limits output overall from OPEC. Iran has argued it should be exempt from such limits as its production has just started recovering after the lifting of E.U. sanctions earlier in 2016. Iran’s production has been steady at 3.6 million bpd in the past three months, close to pre-sanctions levels, although the country says that it wants to ramp up output to more than 4 million bpd when foreign investments kick in.

On the other hand, rival Saudi Arabia agreed to a plan to curb output by almost 1 million bpd of oil over the next year. However, the plan would also require Iran to hold its production steady at about 3.7 million barrels a day, which Iran has rejected. Saudi Arabia is the largest OPEC producer with output of more than 10.7 million bpd, on par with Russia and the U.S. Together, the three largest global producers account for a third of the world’s oil.

Talks collapse due to geo-political tensions

The OPEC, a 14-nation cartel that controls over a third of the world’s oil production, was under pressure to reach an agreement with producers outside the group as well to stabilize the market and eliminate the global oil glut, where markets continue to struggle with excess supply and crude remains capped below $50 a barrel. Earlier in August 2016, some OPEC members including Venezuela, Ecuador, and Kuwait had called for an output freeze. However, the talks were scuttled because Russia, a non-OPEC nation and the world’s largest crude oil producer, and Saudi Arabia both ramped up production to record levels. Other key OPEC members, including Iraq and Iran, have been ramping up oil exports and battling for higher market share through discounted selling prices.o4

So far in September 2016, the global oil market is being supplied with more than 800,000 barrels a day of additional crude as Russia’s output reaches an all-time high while Libya and Nigeria restore disrupted supplies, as reported by Bloomberg on September 23rd, 2016. This jump in supply would triple the supply surplus, estimated currently at about 400,000 barrels a day by the International Energy Agency. Industry experts felt that crude prices may nosedive below $40 a barrel unless the OPEC acted fast. Earlier in April 2016, OPEC’s efforts to come to an agreement with Russia collapsed in Doha when Saudi Arabia insisted that Iran had to participate in a freeze.

Focus shifts to November meeting

Market watchers believe that while the initial response to the OPEC agreement was positive, there are crucial questions that have been left unanswered by the organization. Analysts are seeking many details as to how much each country would have to produce to pull up oil prices to sustainable levels and rebalance the market glut. Also, there is not much clarity on when the agreement would come into effect, how compliance with the agreement would be verified, what would be the new output caps for each country, and how long the deal would remain in effect. The focus now shifts to OPEC’s meeting in November 2016, when economists and investors believe that clearer facts emerge and these questions could be answered.

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