The New Reality For Oil

30 to 45 USD – the new reality for oil

This morning, after secret negotiations in Doha – the capital of Qatar – the four oil-producers Saudi Arabia, Qatar, Russia and Venezuela agreed to freeze their output at January levels.

The common goal of this agreement is, of course, to tackle the oil price, who after 19 months of declines marked a 13-year low a few days ago and is hurting the budgets of all producers, especially hard  hit is Venezuela (see chart below).

Now, what will be the outcome regarding the crude-price, if this production-freeze really takes place in the coming months.

1. The oil price will rise slightly, because until today, the market expected the oil-producer to expand their production during 2016.
2. On the other hand, it’s only a freeze, not a cut. So don’t expect a massive jump in oil. After all, the freeze takes place at the record output-levels of January 2016.
3. What the freeze really could achieve is a price-floor for oil at about 30 USD/barrel. It’s going to be very risky for a trader to short oil below this price-level.
4. Experience from the past indicates, that agreements among oil-producers (inside Opec and non-Opec producers) were not always fulfilled. If the price is rising, it’s to tempting to increase production above the agreed levels.
5. And there is always the possibility, that Saudi Arabia et al are over-reporting production and exports just so that when they go to the Opec meeting they can say ‘Oh yeah, we cut around here and here’.
6. If the oil-price should rise above 40 to 45 USD/Dollar, it’s most likely, that other producers, for instance US-shell, will be back on the market and contribute again to the oversupply of oil. Exactly this oversupply – currently about 1,5 million barrel/day was the main reason for the ’emergency’-meeting in Doha this week.

The conclusion for the oil-price is this. As long as the economies of two of the biggest oil-importers (China and Japan) are stagnating, the oil price won’t rise above 40/45 USD/barrel but due to the production freeze, agreed this week between Saudi Arabia or Russia, most likely won’t fall far below 30 USD/barrel again. That’s at least a little relief, regarding the fact, that many oil-bears were betting on oil at 10/15 USD/barrel just a short while ago.