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Opec to stick with no cuts policy in Vienna

Opec is likely to sit on its hands this week in Vienna, hoping the market vindicates its policy in 2016

Global oil stocks are at record highs. The demand surge of 2015 is over and consumption growth next year will be more modest. US interest rates may be about to rise, putting more pressure on crude prices. Opec is producing well above its agreed ceiling. Non-Opec output continues to chug along at levels above expectations.

It makes for a bearish picture, but barring a major surprise Opec will stick to its no-cuts policy in Vienna on 4 December. None of the necessary pre-meeting work to change tack has happened and price support is not on the agenda. Market recovery remains the goal of lynchpin Saudi Arabia and the other Gulf members.

When Opec does get back to cutting, it will happen in a firming market, say those close to the Saudi ministry. The kingdom will want to bolster momentum, not change it. Market analysts predict the start of a recovery in the second half of 2016. The meeting a year from now is when Opec might resume its interventionist role.

In its quest to regain customers, Opec can point at progress. This time last year, the call on its crude was forecast to be just 29.2m barrels a day (b/d). Now the International Energy Agency (IEA) says the call will rise to 31.3m b/d in 2016. In Q4 2016, it will reach 32m b/d – almost 3m b/d more than in Q4 2014.

At least that’s the argument in favour of sticking with the policy. The counter is that Opec’s production in October was about 31.8m b/d, almost 1.2m b/d, or about 3%, more than a year earlier. But in the same period, its share of the global market rose only marginally, from 33.1% to 34.1%, while the price of its crude basket slumped from $85/b to $40/b. Some may wonder if the plunge in income was worth the single percentage point.

On those grounds, hawkish members – especially Algeria and Venezuela – will press for some action this week, as they always do. The Gulf states will ignore them, as they are wont to do. Price-supportive noises from Iran and Iraq, which both hope to increase output in the coming year, can also be discounted.

But rival suppliers aren’t as weak and demand not as strong as Opec might have expected 18 months into the slump. The IEA thinks US tight oil output will drop by 600,000 b/d next year, but in November US production was still higher than a year earlier. Some forecasters expect Russia to shed production next year – but in October its output hit another post-Soviet high of 10.78m. New oil sands projects in Canada are not viable at today’s prices, but supplies will keep growing over the next year thanks to developments sanctioned years ago. Brazil’s upstream has slowed, but will still add output.

Demand is an even bigger concern for Opec. Robust growth of 1.8m b/d this year won’t carry on in 2016, when global consumers will consume just 1.2m b/d more. Despite a sharp rise in Indian demand, Chinese consumption growth remains “anaemic”, according to the IEA. Recent data from the US suggest the consumer surge seen earlier this year was a spurt, not a trend. Among emerging markets, oil exporters are hurting from the price drop, points out Seth Kleinman, global head of energy for Citi. So they can’t be relied on to propel global demand either.

Against that backdrop and with no intention of cutting supply, Gulf officials have tried to talk up the market in recent weeks, stressing that non-Opec supply-side weakness will eventually drain the glut. But the reality looks distant. OECD stocks are now around 3bn barrels – an “unprecedented buffer” against supply shocks, says the IEA. China and others have also used cheap crude to boost inventories.

Amrita Sen, chief oil analyst of Energy Aspects, predicts that as supply growth keeps tails off next year stocks will start to fall in the fourth quarter. But things could get uglier before then. On its own, Iran’s return could more than compensate for the forecast drops in non-Opec supply. If so, markets will remain oversupplied – a prospect already in traders’ minds, to judge from weakness in the forward curve. Hedge funds have again shortened their positions in recent weeks.

Crude prices remain vulnerable to other forces too. Opec’s Middle East members are already discounting the crude they sell to Asia and Iran’s return to the market next year will only worsen this price war. Some members are scrambling to find alternative buyers. Even Saudi Arabia has been forced to send barrels elsewhere; it recently sold cargoes into northern Europe, targeting the Urals market.

The macro-economic picture is bearish. Good employment news from the US’ Bureau of Labor Statistics on 4 December may at last prompt the Federal Reserve to lift interest rates. At best this will strengthen the dollar and weaken dollar-priced commodities like oil. At worst, the move will do more damage to emerging markets and their oil consumers and bust some speculative asset bubbles.

Deeper threats lie on the horizon. As Opec’s ministers sit down in Vienna’s Helferstorferstrasse, world leaders will be in Paris to negotiate a new climate treaty. Even if the summit passes without a deal, global momentum is inexorably building behind demand-side measures that will stunt fossil fuel consumption.

That’s another reason why Opec won’t move now to support a price rise. Doing so would not only loosen the noose on its rivals but could snuff out demand growth once again.

Cuts now would also mean the pain of the past year was needless – a difficult pill to swallow for Opec members still convinced cheap oil will revive their customer base and wreck their rivals. Expect fine words from Opec this week about compliance with its 30m b/d production target, but an agreement to do nothing. The bigger decisions will wait until Opec regains its self-confidence - or decides the market isn’t behaving as it wanted it to.

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