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Viktor Katona

Viktor Katona

Viktor Katona is an Group Physical Trader at MOL Group and Expert at the Russian International Affairs Council, currently based in Budapest. Disclaimer: views set…

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Expert Analysis: What’s Next For Russian Oil

In the wake of Putin’s May 7 inauguration, the corridors of power in Moscow have been replete with speculation regarding the composition of the next government. Alexander Novak, the Energy Minister, is one of the lucky few whose performance President Putin was genuinely satisfied with, hence the lack of rumors about his potential supersession (the only noteworthy one stipulated that he might replace Foreign Minister Lavrov if he were to abnegate his powers). However, the new setup, with the inclusion of officials who are new to the energy sector, will bring some changes to Russia’s oil policy, with both internal and external consequences.

Minister Novak is widely credited for playing a positive role in establishing a constructive relationship with Saudi Arabia, a country that had been a source of major political concern given its long-standing support to Chechen insurgents. It is this success that has led analysts to believe that he will be safe in his position for the next 6 years. However, he will be aided by a new deputy prime minister – Dmitry Kozak, who was previously in charge of regional development, oversaw the organization of the Sochi-2014 Winter Olympic games and served as the President’s special envoy to the Northern Caucasus in 2004-2007.

The previous deputy prime minister in charge of energy, Arkadiy Dvorkovich, seems to have fallen out of favor once and for all. Last autumn, Putin public scolded Dvorkovich for his mishandling of an airline bankruptcy, and his downfall was completed this April when Ziyavudin Magomedov, the owner of Russia’s main Black Sea port with a net worth of $1.4 billion, was arrested on embezzlement charges. Magomedov was considered to be a protégé of Dvorkovich (the two went to university together and remained close friends ever since) and the fall of the former signaled the possible demise of the latter. Dvorkovich also had a very fraught relationship with Rosneft chief Sechin as the two had vied for influence over Russia’s energy policies. Related: Higher Oil Prices Look Likely

Despite price turbulences and a massively indebted Rosneft (a consequence of its significant undertakings in Venezuela, Kurdistan and elsewhere), Sechin managed to navigate his way through all hardship to become one of main political winners of Putin’s third presidential tenure. Many analysts now expect his influence to increase even further, however, there is a reasonable basis to assume that he will not be allowed to embark on another hostile takeover or to muscle his way into still more power. While the Bashneft “privatization” (it is very difficult to call it such as it was bought up by a national oil company without carrying out a due tendering procedure) was allowed, the arrest and incarceration of Economic Development Minister Ulyukayev generated way too much negative attention for both Rosneft and Sechin.

The “securitization” of Russia’s oil sector seems to have hit a barrier – the incorporation of FSB officers into the national companies’ organizational structure might provide short-term benefits for the state but may be detrimental in the long term (especially if they turn out to be overly zealous). The relative lack of changes from President Putin so far indicates that the new government ought to be a more liberal one, with more proven technocrats and less military hardliners. This will be further underscored if Alexey Kudrin, a former Finance Minister renowned for his adherence to fiscal prudency and free markets, is appointed the Head of the Federal Audit Office.

Continuity is what the new government will want to see in the medium term. Continuity with the OPEC+ agreement (either in its current reform or, in the case the general deal goes bust, via increased coordination with Saudi Arabia and Iran), for obvious reasons. By freezing output (Russia ramped up production ahead of the baseline October month in 2016, in effect its production remains at the 2016 annual level up to the present day), the Russian state has managed to garner an additional 1.2 trillion rubles (roughly $20 billion), whilst its energy companies earned an additional 500 billion rubles ($8 billion). Russia is poised to seek continuity internally, too, and avoid any major controversies between its top-5 producers (Rosneft, LUKOIL, Gazprom Neft, Surgutneftegaz, Tatneft) – by seeing to that Rosneft does not seek any ownership stake in LUKOIL, the authorities would allay general concerns that the oil sector is bound to be renationalized.

Regulatory progress will remain slow – the tax reform is now in its third year of delay and the most optimistic voices now talk of 2019 as the earliest possible date of implementation. The only significant move that could bolster activity in the short term would be the opening up of Russia’s Arctic areas – currently only state-owned oil companies can work there (Rosneft and Gazprom Neft). Even if access is not granted to all private majors, the ?1 private company in Russia, LUKOIL, is likely to gain permission. Outside of the Arctic, sticking to the status quo is likely to be the main tactic for Putin’s new government. Related: ConocoPhillips Moves To Seize Venezuelan Oil Assets

In 2016-2017 Moscow preferred to shut-in marginal W-Siberian wells so as not to obstruct the long-awaited commissioning of greenfield projects in Eastern Siberia and the Caspian. Yet as time passes, Russia has surprisingly found itself in the position of a potential swing producer – if we account the 300 000 bpd that it pledged to cut in November 2016, its potential spare capacity currently amounts to 500 000 bpd. While that accounts for only a quarter of Saudi Arabia’s spare capacity, it remains a significant development for the Russian oil sector which, throughout modern Russian history, has always pumped as much oil as possible.

Taken together, the only burning issue that needs to be dealt with by Russia is the ongoing quality deterioration in Europe-bound Urals flows (density and Sulphur content have grown considerably as an increasing amount of lighter oil is taken to China). As the Urals-Brent spread reached 5-year lows (with the Med April cargoes sold at a $3.40/bbl discount and Urals demand faltering in Q1 2018, the Energy Minister has to nip the quality deterioration problem in the bud, before serious damage is done). The Trump Administration has helped Russia (unwillingly) by sanctioning Iranian crude – Iranian Light has been vying for a larger market share against Urals, however, it is now up to the Energy Ministry to find a lasting solution.

Disclaimer: views set out in this article are solely those of the author in his private capacity.

By Viktor Katona for Oilprice.com

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