OPEC can still surprise market

Lukoil, Russia’s second-largest oil company, told Bloomberg in an interview on Oct. 10 that oil producers should not extend supply cuts beyond their expiry at the end of March if prices rise to $60 a barrel as they should not allow the market to move into a supply deficit.

For Alekperov, if oil prices stayed in a range of $55-$60, then extending the cuts “would be inappropriate.”

Vadim Yakovlev, deputy CEO of Gazprom, Russia’s fastest-growing oil producer by output, told Reuters this week that extending the deal beyond March will hurt the company’s production expansion plans.

However, if the market is stable and oil prices are in a good range, then why are some producers not giving their support for the extension beforehand?

There are two reasons for this. First, some OPEC ministers think that by taking an early decision on the extension this year, many shale oil companies will have the comfort of hedging their production for next year. This will lead to an increase in their output next year and that may jeopardize OPEC’s plan to rebalance the market.

A second reason for this is that demand is expected to stay strong and many producers in the agreement fear that they might lose some of their market share next year if they do not increase production, while others need to increase production due to necessity.

Countries like Iran, Iraq, UAE and Kuwait, are all planning to add more output capacity next year.

Kuwait, for example, has a new refinery in Vietnam that will become fully operational in December. This will process 200,000 barrels per day (bpd) of crude with Kuwaiti oil at least making up to 80 percent of that if not the full 100 percent.

So for Kuwait, an increase in production next year is important otherwise it would need to cut shipments to some clients in order to maintain agreed output targets.

Saudi Arabia will also start feeding crude next year to its new refinery in Jazan that will process around 400,000 bpd of Arab heavy grade as the plant should be fully operational by the end of 2018 or early 2019.

There are new refineries popping up seemingly everywhere as the year approaches its end — but mostly in China. There is also demand coming from independent small refiners who are concentrated in Shandong province, known as teapots.

China currently has around 15 million bpd of refining capacity, which is likely to grow to around 15.5 million bpd by the end of 2017.

So all producers are tempted to sell more to China to capture that demand.

The battle for market share is already here. If OPEC does not increase its share next year, it will miss a big opportunity to rivals such as the US which is already boosting exports to Asia.

OPEC’s calculations indicate that the market will rebalance by the third quarter of next year, holding everything constant. So OPEC and Russia may be compelled to extend — but they may also surprise the market and decide otherwise. Another possible outcome would be extending to the end of 2018 and tapering the agreed cuts to a lower threshold that would help to keep inventories down.

Wael Mahdi is an energy reporter specializing on OPEC and a co-author of “OPEC in a Shale Oil World: Where to Next?” He can be reached on Twitter @waelmahdi

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