Even if OPEC+ has a highly probable rollover of 1.2 million barrels per day (bpd) output cuts for the second half of 2019, as agreed at the G20 Summit by Saudi Arabia and Russia, the next six months will still be challenging.
The resumption of the trade talks between the US and China may take time to be reflected in oil prices, which are fragile due to the uncertainties of supply and demand arising from global geopolitical tensions.
Here are some of these challenges ahead for OPEC+ in the second half of 2019:
1) The US will be less dependent on Arabian Gulf crude oil imports:
According to the Energy Information Administration (EIA), the US imports of crude oil from the Arabian Gulf countries averaged less than 1.05 million bpd in March 2019, down from a peak of nearly 3.08 million bpd in April 2003. Also, US April crude imports from all members of the Organization of the Petroleum Exporting Countries (OPEC) countries were 1.4 million bpd, their lowest level since February 1986.
The EIA reported that US production grew in April to 12.16 million bpd from about 5.73 million bpd in 2003. This surge in US oil output came mainly from booming shale production, such as in the Permian Basin of West Texas.
These figures were reported by the EIA just as President Trump was saying that the US was no longer dependent on oil coming through the Strait of Hormuz, while China, Japan and South Korea depend on most of their oil supplies through the strait.
2) Price movements for the first half of 2019 do not reflect the strong fundamentals:
Oil prices in mid-2019 are close to levels at the end of 2018, ranging above $60 per barrel for Brent crude. Apparently geopolitical tensions and attacks on vessels off the port of Fujairah and the Gulf of Oman and on a Saudi oil pipeline failed to lift up prices. Oil prices started 2019 at low levels, with Brent crude prices slightly above $50 per barrel.
Prices then rallied, driven by supply losses from Venezuela, Iran and Libya that led to the market steadily tightening. Brent settled at around the $70 per barrel mark for the months of April and May, waning slightly in June as the price sank to a narrow range between $60-$65.
3) 2019 seems more challenging than 2018:
Last year OPEC was extremely successful in the face of far smaller challenges. 2018 reflected the success of OPEC+ in stabilizing markets, as OPEC+ producers agreed to cut oil output and effectively balanced the market. Oil price movements have taken a gradual upward trend since the beginning of 2017, when OPEC+ began its output cuts of 1.8 million bpd.
When prices retreated in the last quarter of 2018, compliance with a new agreement to cut by 1.2 million bpd in January 2019 had a positive effect. However, involuntarily output cuts from Venezuela, Libya and Iran could not lift the prices steadily above the $70 mark.
4) An ample supply or a tight market:
Though the physical crude oil market shows tight medium/heavy sour crude grades from the Arabian Gulf that is clearly reflected and shown in the strong physical spot market activities. In a scenario of abundant supply, OPEC+ would need full compliance in cuts, and perhaps a little more than that, to maintain a slight deficit in the market, rather than being saturated with the surge in US shale light sweet crude.
5) Will OPEC+ continue to reference its output strategy to the OECD stocks metrics?
OPEC+ efforts have been successful for 30 months in maintaining adequate supplies and absorbing the crude oil surplus. The latest five-year average for the commercial oil stocks of the Organization for Economic Co-operation and Development (OECD) was OPEC’s key measure for its oil output strategy throughout those 30 months.
However, OECD commercial crude stocks have been increasing regardless of OPEC+ output cuts and regardless of the involuntarily supply cuts from Venezuela, Libya and Iran. This led oil prices to slump from $86 per barrel for Brent crude price to the 16-month low of $54 per barrel at the end of December 2018.
After 30 months of successful OPEC+ efforts, the group must now consider looking at different oil inventory metrics if it decides that the OECD five-year average was not the right measure to follow. If OPEC+ acknowledges this, will the group instead focus primarily on US crude inventories? If yes, has the boom in shale oil production encouraged OPEC to change the way it assesses inventories?