OIL SWING

Escalation of the trade conflict between the US and China and the related forecasts on the global economic growth rate, as well as the aggravation of relations between Washington and Tehran were the main factors affecting the oil market in August.

Oil prices for different oil grades swung up and down for four weeks, but steadily remained within a $57-62 per barrel corridor for Brent. According to analysts, even the tense geopolitical situation in the world did not lead to a sharp collapse in oil prices because the oil market is currently balanced and receives support from a seasonal increase in demand.

Effect of the deal

As a result of evening trading on August 28, oil prices continued to grow after the US Department of Energy published data on a sharp decrease in energy reserves in the country over the past week. October Brent futures on the London ICE Futures exchange rose by $1.29 (2.17%) to $60.8 per barrel. The October futures price for WTI on the New York Mercantile Exchange (NYMEX) increased by $1.43 (2.60%) to $56.36 per barrel.

An important factor supporting oil prices is also the deal on cutting oil production reached among the OPEC+ member states. In December 2018, the OPEC and OPC+ member states agreed to reduce oil production in the first half of 2019 by 1.2 million bpd from the level of October 2018. At the same time, OPEC members agreed to remain committed to reducing production by 800 thousand bpd (by 2.5% of the output of each country), and countries outside the cartel by 400 thousand bpd (by 2% for each country). Iran, Venezuela and Libya received exemptions from the deal. In July 2019, in Vienna, 24 OPEC+ member states decided to extend the deal for another nine months (until the end of March 2020) under the same conditions.

In August, the OPEC+ Joint Ministerial Monitoring Committee (JMMC) announced that in July the cartel implemented an agreement to reduce oil production by 159% compared to 137% in June. “This high level of implementation reduces market uncertainty due to continued concern over economic growth,” the committee said. JMMC also expects to significantly reduce commercial reserves of oil and oil products in the world in the second half of 2019.

Price forecast

On the one hand, the oil price below $60 is not a very comfortable indicator for oil producers, since this leads to a reduction in the level of oil revenues. Well, the risk of a further fall in the price range is quite high. However, lower prices also lead to a reduction in shale oil production in the US. The cost of WTI should be stable at around $60 per barrel, otherwise investment in this sector will have to be curtailed.

According to BCS Global Markets experts, a further increase in US oil production requires that WTI oil prices rise, which, however, have come under pressure due to cut in demand amid fears of a trade war. “As a result, even a moderate increase in the US production is unlikely, given the total cost of shale oil production ($56 per barrel of oil equivalent). The continued decline in the number of drilling rigs also indirectly indicates that attempts to increase the volumes are gradually replaced by willingness to be efficient financialy,” follows from the report of analysts.

Therefore, given the forecasts of the main US shale oil producers, which provide about 30% of the country's production, we can expect only a slight change in the current level of production in the States in 2019. “In 2020, the dynamics will depend more on WTI oil, which should cost significantly more than $60 per barrel to stimulate production,” market researchers say. Thus, a steady price level for WTI for 2020 is forecasted to be in the range of $65-70 per barrel, which corresponds to the Brent price of $70-75 per barrel.

Meanwhile, analysts at UBS AG expect a recovery in Brent oil prices to $65 per barrel over the next three months due to a reduction in global fuel reserves. However, experts say, the price of this brand will again drop to $62 per barrel and to $60 in the 12-month term to due to trade risks.

Analysts at Fitch Solutions in August lowered their forecast for the price of Brent for the next three years, as friction in world trade continues to put pressure on market sentiment and physical demand for oil. Now experts expect that Brent will average $67 per barrel this year, $65 in 2020 and $61 in 2021. Previously, forecasts were respectively at $70, $76 and $80 per barrel.

Morgan Stanley experts downgraded their Brent crude oil price forecasts for 2020 to $60 per barrel, noting that OPEC countries will have to make an even more significant reduction in production next year.

Ministry of Economic Development of Russia also adjusted the price of Urals oil by lowering it in the macroeconomic forecast for 2019-2024. “Considering the weak dynamics in the global economy, the forecast for Urals oil prices by the end of this year will be at about $57 per barrel. On average, the annual price will be $62 per barrel,” said Maxim Oreshkin, Minister of Economic Development.

OPEC to save the situation again

Given such a tangible volatility and uncertainty on the global scale, the growing transformation of the oil market into an instrument of political confrontation and rivalry of major powers, experts call for the urgency to develop a more flexible energy policy in countries whose economies are more or less dependent on ups and downs of oil prices.

This also applies to Azerbaijan, where oil prices are still a rather relevant topic for the national economy. Any change in world trading platforms directly affects the replenishment of the state budget of Azerbaijan, its financial, and economic stability.

According to published data, in the first half of 2019, Azerbaijan exported more than 15.6 million tons of oil, which is 3.8% lower than the same period last year. At the same time, the total value of oil exported from Azerbaijan for the reporting period reached $7.4 billion (a decline of 8.6%). The decrease in revenue is associated with a lower level of oil prices on world markets in January-June 2019 and a decrease in oil exports, taking into account the fulfilment of obligations under the OPEC+ deal.

From the very beginning, the vision of the government of Azerbaijan on its energy policy was the establishment of friendly relations with OPEC. And this worked. Despite the scepticism of numerous experts, the above indicators show that it is the cartel’s decisions today that are the most effective lever regulating oil prices. Accordingly, the opportunity to participate in discussions and behind-the-scenes negotiations of the organisation is very valuable for drawing up plans for the development of the economic situation in the country.

Reduction in oil dependence

As for the calls that the government needed to adjust oil prices in the budget for 2019, as mentioned above, it is very unlikely that oil prices drop below the red line for Azerbaijan, which is $60 per barrel. So the government’s decision to maintain this indicator in the second half of the year is justified.

On the other hand, the government took a number of important steps in the period following the crisis of 2015-2016 to reduce dependence on the oil sector, due to which its specific gravity already exceeds 10%. “Over the six months of this year, our economy grew by 2.4%, and the non-oil sector - by 3.2%. The most encouraging indicator is related to the non-oil industry. The growth here is 15.7%. This indicates that in recent years our policy of industrialisation has yielded excellent results,” Azerbaijani President Ilham Aliyev said on July 31 at a meeting related to the development of socio-economic sphere.

At the same time, an important indicator is also that the country's non-oil export is no longer behind the total export and, according to the results of the first half of the year, equated to its value - 15% - and exceeds the value of non-oil import.

“In general, we can see an overall economic growth for the last six quarters, and economic growth in the non-oil sector for the last ten quarters. This demonstrates its stability,” Elman Rustamov, Chairman of the Board of the Central Bank of Azerbaijan, said.

In a word, correct forecasts of the state budget of Azerbaijan suggest that there is no cause for concern for the Azerbaijani economy, no matter how much the oil prices change...