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Opec suffers internal division as the market slumps

Venezuela calls to cut supply and hike prices, but Saudi Arabia is sticking with its plan

With his country's economy in freefall and worried about elections on 6 December, Venezuela's president Nicolas Maduro needed some help from Opec. Eighteen months into the oil price slump, it was time for the group to cut supply and raise the price, he declared during a four-hour television broadcast on 2 December. "The hour has come to put the oil market in order." 

Maduro and his oil minister, Eulogio del Pino, hatched a plan for Opec's 4 December meeting in Vienna. Production would be cut by 5%, equivalent to about 1.6 million barrels a day (b/d) - enough to end the relentless daily build in global stocks and spark a recovery, Venezuela had hoped. Algeria, Ecuador, Iran and Iraq - Opec's other perennial price hawks - supported the idea. Failure to act now, del Pino said as he arrived in Vienna, would lead to 'catastrophe'.

We should know soon if he was right. Opec's decision to keep pumping was widely expected by traders - but none predicted the group would emerge from the meeting without even a nominal production target. Opec output, around 32m b/d in November, could rise further in the coming months. 

No longer is the battle just against rival producers outside the group. Its leading members are now facing off in an internal struggle for market share. "Opec is fractured," a member of Iran's delegation told Petroleum Economist immediately after the meeting. 

Some analysts insist Opec and its kingpin Saudi Arabia simply didn't have a choice but to stick with the laissez-faire policy adopted in November 2014. The group's global market share in the past year has risen by just one percentage point, while income has nearly halved. But that doesn't mean that the plan can be written off. "You can't say you've lost if you're still in the game," said Jamie Webster, a senior director at IHS and veteran Opec-watcher. "And they're still playing. They're doubling down."

Saudi Arabia, though, has continued to offer hints of a shift in policy. Even last year, responding to another Venezuelan plan ahead of the fateful November meeting, Saudi oil minister Ali Naimi could have been prepared to cut production, so long as big non-Opec producers agreed to as well. Russia refused and the idea was dropped. 

This time, Naimi agreed to hear out Opec's five hawks, meeting them at Vienna's Ritz Carlton on the eve of the official summit. The discussions would be 'candid', del Pino said. The market was expecting a production rollover, so prices started to rise on news of the negotiations; and then leapt higher after a sourced report from Energy Intelligence suggested the Saudis might agree to a group-wide trim of 1m b/d.

That rally was short-lived. Naimi left the informal hotel discussions without agreeing to a thing. Ministry officials denied the Energy Intelligence story. At his traditional eve-of-meeting dinner with analysts, a senior Saudi official assured everyone that nothing was going to change.

The meeting went far worse than Venezuela and other hawks could have expected. Five hours into discussions, the Venezuelan delegation gathered on their own for lunch. "They looked very glum," said one person in the room. Del Pino faced an awkward conversation with Maduro. The Saudi delegation was in good spirits. One senior ministry official was said to have been relaxing with a book.

Saudi Arabia not only formally rebuffed Pino's 5% idea but Opec's post-meeting communique didn't even mention the group's 30m b/d output target. "Practically, there is now no ceiling for Opec," Iran's oil minister, Bijan Namdar Zanganeh, told reporters as he left the group's headquarters. "Anybody will produce as much as they want". 

In reality this was a rollover. The ceiling had never specified individual country targets and has been exceeded relentlessly in the past two years. But Opec's failure even to stick with the nominal target was unusual. As the ministers and entourages scurried to their private jets, analysts still in Opec's building were left to digest the news. "If WTI closes below $40 a barrel today, it could be crushed next week," said one. "We're going through the biggest oil price crash since the great recession and Opec basically just said it doesn't care." In New York, WTI dropped through the barrier, closing at $39.97/b. Brent finished at $43/b.

Divergent strategies

Some analysts think that a fresh drop in prices might be part of Saudi Arabia's plan to flush out rivals more quickly, hastening the recovery. The kingdom expects the market to begin turning in the second half of 2016, as non-Opec supply at last starts to retreat, say consultants briefed by the ministry. This will change sentiment, even if stocks remain high. Another dip in prices could also be expected to perk up consumption, which after strong growth in 2015 is otherwise expected to grow by a more modest 1.2m b/d in 2016.

Others think there simply isn't a plan; that Saudi Arabia remains only reactive. Opec couldn't cut last year, because doing so would only have supported prices for higher-cost producers elsewhere. It couldn't cut on 4 December, either, because Iran, Iraq and even Libya - all eager to regain lost capacity - might simply have blown through any agreement anyway.

Emmanuel Kachikwu, Opec's Nigerian president (until January), explained that rationale after the Vienna meeting. "Iran is just getting ready to come [back] to the market" he said. "So 5% of what are you going to cut? We need to see what Iran brings in to the market". 

But none of that could mask what had been another deeply divisive meeting. "We disagreed about everything," said a member of the Iranian delegation. 

That included the question of who would succeed Abdalla el-Badri as Opec's secretary-general. The group of five hawks now want to install "their own man", said someone familiar with the discussions. The ministers spent half of the seven-hour meeting just on that issue, without a deal. El-Badri was reappointed, but only in an acting capacity. The communique pointedly referred to an Opec statute requiring his replacement.

Another row focused on the Opec secretariat's view of demand. The hawks said the secretariat had overestimated its growth in 2016, which would be closer to 1m b/d than the 1.25m in the official forecasts. They'd made this point a week earlier, too, at a meeting of Opec's Economic Commission Board. The debate might look arcane to outsiders, but for the hawks the discrepancy was central to their argument: the world would need much less of the group's oil.

Whatever the truth, the hawks lost on 4 December. Naimi, suggested some insiders, had played the hawks at their own game. News that the kingdom would consider cutting had flushed out the agenda of its biggest rival, Iran, which was forced to lay its cards out. As soon as its oil minister Zanganeh told journalists in Vienna his country would not cut until it had recovered its pre-sanctions capacity, Venezuela's 5% plan was doomed. 

None of this means Opec will never cut again, and when it does the group will no doubt rediscover its unity of purpose. Some analysts think Saudi Arabia will wait for the market to start firming before agreeing to intervene, preferring to go with momentum than try to reverse it. That could come as soon as December 2016.

Until it does agree to cut, Opec's production can be expected to keep rising, led chiefly by Iran but also possibly including more Iraqi and Libyan barrels. Even Venezuela plans to bring on more capacity from developments in the Orinoco. Lacking even the pretence of the 30m b/d ceiling, an output free-for-all is now underway, and those that can pump more will. With the reintegration of Indonesia and its 800,000 b/d into the group, plus some benign politics in Libya, output could plausibly reach as much as 36m b/d in the next two years. 

To find buyers for any of this extra oil, more aggressive pricing can be expected. Iran, Saudi Arabia and other Mideast Gulf exporters have already been discounting the cargoes they sell to Asia. Saudi Arabia has begun targeting northern Europe, forcing Russian exporters to cut prices too. In November, the kingdom dropped the price of its oil for the US.

A plan to recover market share is looking increasingly like a full-blown price war. If the past year has been rough for producers outside the group, things could well get much worse before they start to get better.

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