Posted: Jul. 03rd 2019
OPEC: Hotel California
Yesterday, OPEC held its semi-annual meeting in Vienna to review the state of the global energy markets and decide the fate of its agreement restricting production. This meeting took place against a backdrop of steep drops in exports from both Iran and Venezuela (due to sanctions imposed by the United States), two tanker attacks and Iran announcing that it had breached the 300kgs limit on low enriched uranium contained within the Nuclear Agreement. The market was expecting a further extension of the agreement of 6 or 9 months. The only wild card in this meeting was whether Iran would acquiesce to such an extension while suffering under crippling sanctions.
On cue, OPEC agree to extend the current level of production cuts (approximately 1.2M BPD) for an additional 9 months. Pursuant to the new extension, production cuts will continue until 31st March 2020. Non-OPEC members, who were party to the original agreement, also fell in line and agreed to the extension. Although the markets seemed heartened by the news, the continuation of the status quo did little to allay its fears of weakening demand. Specifically, the market has been focused on slowing global economic activity precipitated by several factors, including the escalating trade war between the globe’s two largest economies – the United States and China. The weakening of global manufacturing has been evident in the falling PMI’s of most industrialized economies. As a consequence, although crude oil prices were steady yesterday at the conclusion of the OPEC meeting, today prices fell by approximately 3 percent.
The recent OPEC meeting raises several important questions. The first is related to the cohesiveness of existing OPEC members. Iran, one of the group’s founding members, finds itself subject to severe economic sanctions and in response, other OPEC members have consistently disagreed on issues of politics and religion, shared economic interest has been a unifying principle. Recent events do not bode well for future group unity. Second, Russian influence over OPEC, which started with the recent agreement, appears to be growing rapidly. There is a rising fear amongst some of the smaller members that both Saudi Arabia and Russia together will be controlling the group’s decisions in the future. And finally, it’s beginning to look like OPEC has no exit strategy from the current agreement. If OPEC cannot begin to transition away from the production cuts when both Iran and Venezuela’s exports are at multi-year lows, when will there be a better opportunity? It seems there is no exiting from the current agreement without it negatively impacting prices. All of these questions are interesting, but with the current agreement now extending past three years, it is beginning to feel more like the Hotel California – “you can come in but never leave.” We will be interested to see how OPEC and its non-OPEC partners find their way out of this box of their own making.