Saudis’ risky OPEC strategy could backfire

Kingpin gambles on quota changes

The famously fractious OPEC members seem to be getting along just fine these days.

Kingpin Saudi Arabia has deftly manoeuvred to bring recalcitrant members and even OPEC ‘frenemy’ Russia on the same page to lay the groundwork for a deal in Vienna on Nov. 30.

But after failing to win the market share war during the past two years, Saudi Arabia may be painting itself into a corner once again with its new strategy of setting OPEC quotas between 32.5 and 33 million barrels per day from its current level of 33.24 million bpd.

The deal will likely allow Saudi Arabia’s rivals to raise production even as it handcuffs itself to quotas that were discussed in a meeting in Algiers last month.

U.S. shale producers are already taking advantage of the bump in crude oil prices since the Algiers agreement and are actively locking in prices above US$50 per U.S. crude barrel, said Michael Tran, director of global energy at RBC Capital Markets in New York.

“That provides a lifeline to the shale producers,” said Tran, who says he has seen a ramp-up in U.S. shale producers hedging output at prices higher than they have been all year.

“If OPEC can’t come up with an agreement and prices go back to US$40-45 barrel, U.S. producers become simply price-agnostic because they are so much more hedged. (The Saudis) have to make the quota work because if they don’t, U.S. production will grow even in a low price environment.”

Jon Morrison, Calgarybased CIBC Capital Markets executive director of institutional equity research, said while Canadian produ- cers are slower to hedge, he agrees that U.S. producers are being granted a “November lifeline.”

“The Saudis have to come out with a deal or lose out big time,” Morrison said.

The Saudis also have to worry about Libya, Iran and Nigeria, which are exempt from the quota, which “could undermine the entire notion of a cut” that may be orchestrated in Vienna, Citibank analyst Seth M Kleinman said in a recent report.

“If Nigeria and Libya together add one million bpd to OPEC production, or even just 0.5-m bpd by year-end, then substantive cuts will be required by other OPEC countries, and this is where things will likely get very difficult,” said Kleinman, who is based in New York.

War-torn Libya’s oil production has reportedly surged to its highest level in more than a year at 551,000