Oil prices plunged to three-month lows on Monday on market speculation that OPEC would not be able to follow through on its pledge to cut production at its Nov. 30 meeting. WTI dipped below $43 per barrel during intraday trading.
However, oil prices moved up by almost 3 percent at the start of Tuesday, after OPEC officials said that they were trying once again to overcome their differences.
A deal is going to be a longshot, however. OPEC has boosted output in the weeks leading up to the November meeting, as countries scramble to lock in higher production levels should their actually be a deal. Collective output jumped by 236,000 barrels per day last month compared to September, which makes OPEC’s job at its November meeting all the more difficult. Instead of trying to cut somewhere between 200,000 and 700,000 barrels per day, the group now needs to cut something like 500,000 bpd to 1 million barrels per day. The original proposal was going to be tough, but the steeper cuts required ups the ante for the Vienna meeting.
Previous rounds of negotiations have failed miserably. At the end of October, negotiators reached a standstill with little progress on the technical details of a production cut.
After weeks of failed talks, OPEC is embarking upon a final attempt to overcome their differences. But while the markets were pleased to hear this – pushing up oil 3 percent on Tuesday – OPEC still has the same problematic dynamic on its hands. That is, Venezuela, Qatar and Algeria are desperately trying to ink a deal – no surprise since they won’t have to do too much of the heavy lifting – while the larger producers of Saudi Arabia, Iraq and Iran cannot agree on a formula to cut output. Iran and Iraq do not want to be restrained, arguing that special circumstances (sanctions and war, respectively) should exempt them from having to make cuts.
Meanwhile, new Libyan production is coming to the market. Reuters reports that the “first freshly produced cargo” of oil from Libyan oilfields since the large Ras Lanuf export terminal came back online in September departed Libyan shores this week. After several years of output languishing around 300,000 barrels per day, Libya has suddenly ratcheted up production to 600,000 barrels per day and is targeting further increases in the months ahead. Libya is going to be exempt from any cuts because it has been torn apart by war and instability for years, but rising output from the North African country will offset cuts elsewhere, complicating the task ahead for OPEC.
In fact, rising output from several members – Libya, Iraq, Iran, Nigeria – combined with more gains from non-OPEC countries like Russia, Kazakhstan, and maybe even the U.S., will mute the impact of any cuts.
That conflict was true in September, and it is still true today. It is hard to see how OPEC resolves these differences. If OPEC reaches a deal on Nov. 30 it will be because Saudi Arabia concedes and takes on more of the burden.
Nevertheless, there are a few reasons to think that OPEC won’t walk away from Vienna in total failure. The most important reason is that it could sink oil prices in a bad way. Already, a growing number of analysts see oil prices plunging below $40 per barrel if OPEC fails, with a few outliers even seeing oil going as low as sub-$30s.
Oil speculators have already become more pessimistic on crude in recent weeks; Reuters reports that hedge funds took the most bearish turn for oil on record in the first week of November. Hedge funds and other money managers staked out short positions on crude while cutting their long bets, marking the fastest weekly net-long cut on record. Based on previous price cycles over the past two years, the signs are pointing to another downturn in crude.
The flip side of that equation is that oil prices are poised to pop if OPEC does in fact come to terms. The large buildup of short positions creates the risk of a snap back in the other direction is shorts are squeezed out. In other words, if OPEC decides to cut, recent speculative moves on the downside create the conditions for a larger rally than might otherwise be the case.
Moreover, the jockeying and disagreement from OPEC members could be attempts to gain leverage. Hedge fund manager Pierre Andurand actually sees the odds of a deal at 70 percent. “History has demonstrated that OPEC typically never reaches an agreement before the headlines," Andurand wrote in a note to clients, according to Bloomberg. “Unfortunately, the noise surrounding negotiations is often misinterpreted by the media and most analysts who perceive bargaining techniques as a sign of a deal falling apart."
Finally, because the price gains since Algiers have all but vanished, and the markets are growing pessimistic about the outcome of a deal, OPEC will be under heavy pressure to at least cobble together some semblance of a deal. With WTI and Brent touching a new three-month low on Monday, OPEC might be scared into action. Time will tell.
By Nick Cunningham of Oilprice.com
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