STANDBY MODE

Joint ministerial committee meetings on monitoring the implementation of the OPEC+ deal are always a significant event for the global energy market. The last meeting of OPEC and non-OPEC ministers was in Baku in March 2019, when the officials were able to discuss the beneficial effect on the market of the last agreement to reduce oil production. Now the future of the deal is in question again.

On December 7, 2018, OPEC+ members agreed to reduce oil production in the first half of 2019 by 1.2 million barrels per day (bpd). At the same time, OPEC remained committed to reduce production by 800 thousand bpd (by 2.5% of the volume of production in each country), and non-OPEC countries by 400 thousand bpd (by 2% for each country).

Yes as No

At the end of April, the Trump administration cancelled waivers granted to eight nations until 2 May 2019 on the purchase of Iranian oil (China, India, Italy, Turkey, Greece, Japan, South Korea and Taiwan). Thus, Washington decided to cut the Iranian oil export, which is about 1 million barrels per day, completely. At the same time, the U.S. announced that based on agreements with Saudi Arabia and the United Arab Emirates, these two countries would compensate the withdrawn volumes of Iranian oil. Considering that both nations are parties to the OPEC+ deal, any agreement to increase production to replace the Iranian supply actually means their withdrawal from the deal unilaterally and minimises the likelihood of prolongation of the deal until the end of this year.

Having been caught off guard by Washington’s statement, Riyadh rushed to explain that, on the one hand, it was ready to replace Iranian supplies with its own, and on the other, it remained strongly committed to the OPEC+ deal. "Saudi Arabia will remain in the OPEC+ deal and will not exceed its production limit, although it is ready to meet the consumer demand, including the replacement of Iranian oil," Khalid Al-Falih, Saudi Minister of Energy said.

Dual position of Saudis is understandable. Certainly, the share of a major supplier of oil leaving the market is a nice chance for any producing country. However, it will take a lot of time for the market to react to the lack of supplies from Iran. Therefore, the Kingdom simply does not have to cause discontent of the OPEC+ member states in advance. The decision to extend the deal for the second half of 2019 is expected to be taken at the ministerial summit of OPEC and non-OPEC member states in Vienna on June 25-26. If by this time the market feels an acute shortage of hydrocarbons, then the deal will not be extended anyway.

International Energy Agency (IEA) believes that Iran’s oil may be replaced by similar brands from Saudi Arabia, Iraq, Russia and the United Arab Emirates. Qatar and Australia have good opportunities to replace Iranian condensate on the market. India, with its complex refineries, can replace Iranian oil with Saudi and Iraqi oil of similar quality. "Korea is the largest importer of Iranian condensate from the South Pars field, the preferred raw materials for its petrochemical plants, and it will have to look for alternative supplies that are likely more expensive and also to buy heavier naphtha," IEA said.

Oil and Politics

Apparently, official Tehran, which ranks fourth among OPEC member countries in terms of oil production, does not seem to give up. In response to U.S. actions, Iran threatens to close the Strait of Hormuz, thereby preventing oil exports from the Persian Gulf, if its own supplies are tempered in any way. By the way, up to 30% of oil from the region is transported through the strait.

In addition, Deputy Director for Maritime Affairs of the Iranian Sea Port Organisation, Hadi Haqshenas, said that Iran continues the export of oil and oil products same as in previous months. According to Haqshenas, the Iranian Ministry of Petroleum has changed its tactics in the export of oil and petroleum products. "It is possible that the direction of oil cargo from our ports changes. All oil deliveries are formally sent to destinations. Certainly, the loading of oil and products fell compared to the previous period, but the shipment of oil cargo from our ports has definitely not stopped," Haqshenas said.

The situation in the Middle East escalated in mid-May, when two tankers of Saudi Arabia were fired in the Strait of Hormuz off the coast of the United Arab Emirates. On the following day, armed drones of Houthis blew up the East-West oil pumping stations, through which oil from the eastern provinces of the Kingdom goes to port of Yanbu. The attack caused a fire and minor damage to one of the pumping stations. In general, no one was injured in the incidents, oil exports from Saudi Arabia did not stop. However, Mr. al-Falih said that the tankers suffered significant damage. Riyadh and Washington have linked the attacks with Tehran, despite the refutations of the Iranian foreign ministry.

With the escalation of political tension in the Middle East, the increase in oil prices accelerated reaching $73 per barrel of Brent and $63.30 for that of WTI.

OPEC Uncertainties

On May 19, the ministers of OPEC and non-OPEC met in Jeddah for the 14th summit of the JMMC to discuss the current situation on the oil market and the level of fulfilment of obligations by the parties. It became clear that the implementation of the OPEC+ deal in April was 168%, and 120% in general between January-April 2019.

Nevertheless, JMMC noted that there were serious uncertainties in the form of trade negotiations and geopolitical problems. After the summit, JMMC recommended that monitoring and analysis of the oil market be continued. In particular, monitoring and analysis of oil reserves to prepare the necessary recommendations for the next OPEC meeting in June 2019, including further actions in the second half of 2019.

Russian Energy Minister Alexander Novak, summing up the meeting, noted that countries are ready to continue working together in the second half of the year. “We will clarify parameters and numbers later in June,” Novak explained. “The deal proved to be very effective. Winter passed quite well in terms of demand, so today we need to evaluate the situation after the first half of the year. It will be necessary to evaluate the results, and also to consider forecasts for the second half of the year,” Mr. Novak said.

By the way, the Russian minister did not rule out the possibility of increasing production in the event of a shortage in the market. "It largely depends on the demand in the second half of the year. There is a shortage in summer, if demand grows as in previous years, when it usually grows by 2 million bpd relative to the winter period. Therefore, we need to evaluate the situation carefully and react quickly to prevent the deficit. One of the likely options is a gradual increase in production in order to meet the market demand," Novak added.

H. Al-Falih announced the continuing growth of world oil reserves, suggesting that OPEC+ participants in the transaction focus on reducing this indicator. "We have to continue the journey started two and a half years ago. There is a delicate situation on the market now - supply disruptions, sanctions, on the other hand, stocks are growing. In general, my recommendation to colleagues will be to focus on reducing oil reserves to the required level to reassure consumers," al-Falih said.

According to H. al-Falih, the main issue discussed at the OPEC+'s JMMC summit was a likely extension of production limits during the second half of 2019.

Yes to prolongation

Azerbaijan supports the prolongation of the OPEC+ deal. The country's energy minister, Parviz Shahbazov answering the question whether the deal should be extended after June said: "I think so. We have had a viable cooperation for two years, and the results are evident. I think that this cooperation should be continued," P. Shahbazov said.

According to the Minister, OPEC+ countries can provide the main support to the oil market to ensure balance and maintain prices at levels acceptable to producers and consumers. "Thanks to cooperation within OPEC+, the oil market did not face a crisis in the context of a weakening global economic development, trade restrictions in the global oil market, geopolitical instability and growth of commercial oil reserves in OECD countries," P. Shahbazov said.

By the way, as of April 2019, Azerbaijan has fully fulfilled its obligations under the OPEC+ deal by reducing production to 683 thousand bpd with the required 776 thousand (at the level of September 2018. R+). In general, in January-April 2019, the average daily volume of oil production in the country reached 770 thousand barrels, and the level of implementation of the transaction - an average of 130%.

Kazakhstan, which is one of the JMMC members, also supports continued cooperation in the OPEC+ format. According to the Ministry of Energy of this country, Kazakhstan is ready to discuss possible changes in the terms of the agreement to reduce oil production. The ministry believes that the adoption of new terms of the transaction may be dictated by the forecast of world production and oil consumption for the second half of 2019.

Fitch analysts believe that OPEC+ can compensate the lost oil supplies from Iran, while maintaining the accepted total quota unchanged. "This can be effectively achieved by increasing production within existing quotas or redistributing quotas," Fitch said.

Nevertheless, Fitch believes that in the second half of 2019, OPEC+ countries, especially Saudi Arabia, which reduced production more than others, will still need to increase it to meet global demand, but this process will be gradual. "This is necessary to avoid situations like the one that happened last year when Saudi Arabia, Russia and other countries increased production after the announcement of sanctions against Iran, and the U.S. unexpectedly reported easing under these sanctions. This led to a surplus and a fall in Brent prices down to $50 per barrel by the end of the year,” Fitch reports.

Also, according to Fitch, OPEC+ can resort to using its reserve capacity, which in April amounted to about 2-2.5 million barrels per day.

There is still enough time until the next ministerial summit, but the situation on the world oil market may change significantly, especially if we consider that this market is currently more influenced by political events than economic factors. However, given the positions of the OPEC+ member states, we can assume that the deal will be extended most likely in its updated form.