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Oil falls after OPEC+ disappoints and Saudi kingdom to end voluntary cuts, next move?

OPEC+ extend 9.7 million bpd cuts to end of July, and Saudi’s to remove 1.18 million bpd voluntary cuts in July

Tom Bonney
Posted Tue 9 June 2020
by Tom Bonney

The last time I wrote about oil back in mid-April, storage concerns sparked a crash in oil prices with US Crude oil futures for May tumbling to a price of -$40 a barrel. However, oil prices in May recovered as supply and demand concerns faded. Demand for oil picked up in May amid the easing of lockdown restrictions. Most of Europe re-opened shops, bars and restaurants as the number of COVID-19 cases eased. Europe accounted for roughly 15% of total consumption in 2018 according to BP data. Moreover, all 50 states in the US have eased some lockdown restrictions. The US is the largest consumer of oil, accounting for around 20% of world consumption in 2018. Major supply cuts were also enacted in May. OPEC+ agreed to cut May-June production by 9.7 million barrels-per-day (bpd), equating to roughly 10% of total supply. Furthermore, in early-May, Saudi Arabia announced they would voluntarily cut output by an extra 1 million bpd in June. On top of these cuts, many individual producers were forced to slash production with low oil prices eroding margins. The US Baker Hughes Oil Rig Count tumbled from 325 at the start of May, to a historic low of 222 by the end of the month. As a result, EIA crude oil stocks reported its first weekly drawdown since January in mid-May. Consequentially, the surge in demand and cut in supply saw Brent Crude oil prices rise over 41% for May to $37.64 per barrel (see price chart at the bottom).

The positivity amid oil prices has continued into June. Last week, Brent Crude oil rallied over 11% to $41.86 per barrel. This move was largely fuelled by hopes of an OPEC+ extension to the current 9.7 million bpd cuts. On Saturday, OPEC+ formally announced that the May-June cuts would be extended by one-month to the end of July. However, the announcement of a one-month extension missed market expectations of a three-month extension, according to an economist at Singapore bank OCBC in an interview with Reuters. The economist went on to say “it’s a big gap there (referencing May 9th sell-off). You need a strong conviction to go from $43 (Brent Crude) to pre-crash levels”. Moreover, the Saudi Energy minister announced yesterday that the kingdom, Kuwait, and the UAE would remove their current 1.18 million voluntary cuts in July. On the back of the Saudi and OPEC+ news, Brent Crude oil prices fell 2.63% on Monday, and is down a further 1% as of writing (14:25GMT) to $40.46 a barrel.

Looking forward, many investors will be keeping a close eye on production levels. The US Baker Hughes Oil Rig Count has continued to fall to record lows. Last Friday, the figure came in at a historic low of 206, down from 222 the previous week. However, with Brent Crude around the $40-level, this could encourage producers to cancel planned closures and re-open shut rigs. Moreover, OPEC+ has struggled with compliance issues over its current 9.7 million bpd cuts. Both Iraq and Nigeria exceeded their production quotas in May and June. In addition, two oilfields in Libya have re-opened which is likely to boost its supply.

Thoughts? The 41% surge in Brent Crude oil prices was fuelled by the re-opening of economies and supply cuts. This positive sentiment was carried into June with Brent Crude oil climbing a further 11% last week. However, OPEC+ agreed only a one-month extension to the current 9.7 million bpd cuts, which came in below market expectations of a three-month extension. Moreover, Saudi Arabia announced they would remove their 1.18 million bpd cut in July. It is also likely that some individual producers will increase production with oil prices recovering. Therefore, could we see an issue of oversupply in the coming months? Or will re-opening economies offset the removal of current supply cuts? The next couple of months will be an interesting watch.

Sources: Reuters, BP and FX Street.

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