Opec to increase oil supply, but it may not lead to lower prices
The outlook on oil prices continues to remain firm even after the oil production increase. However, the deal does put a cap on sharp price escalations
The Organization of the Petroleum Exporting Countries (Opec) and its allies have agreed to 100% conformity with the original deal to cut 1.8 million barrels per day (mb/d). The group together had reached a conformity level of 147% in May. The decision is expected to increase oil supply by about a million barrels per day.
The current deal is not going to move the needle much on oil prices in the near term. The actual oil supply cut is estimated to be about 2.8 mb/d (much more than the 1.8 mb/d target), driven by production losses from Venezuela.
Strong demand across the world would mean the excess supply as a result of this deal will be absorbed by the market. “Alongside, there is dearth of spare capacity in the world which implies supply would not increase considerably from current levels,” said Sugandha Sachdeva, vice-president and in-charge (metals, energy and currency research) at Religare Securities. “In fact, it is likely that the market will go into deficit by end of 2018, which makes a good case for prices to remain firm in the medium term.”
Brent crude prices are likely to range between $70-78 a barrel, Sachdeva forecasts.
Concerns on Venezuelan production remain. There is also the potential impact of US sanctions on Iran that needs to be watched, which could reduce supply from the latter.
“Besides, (Iraqi Shia leader) Muqtada calls the shots in Iraq and he won’t sell oil cheap. He now has support from Iran officially,” pointed out Vijay Bhambwani, CEO of BSPLindia.com, adding that both Iran and Iraq are “swing producers”.
Further, the US hurricane season starts in July; historically, oil prices have firmed up during this time of the year, says Bhambwani.
In short, the outlook on prices continues to remain firm even after the deal. However, the deal does put a cap on sharp price escalations. True, pressure from the Donald Trump administration through the US president’s tweets about high oil prices did impel Saudi Arabia to consider supply increases. But then, Saudi Arabia would also like higher prices in the run-up to Saudi Aramco’s initial public offering expected in 2019.
If nations with spare capacity were to compensate for the slower production from others, then Saudi Arabia, Opec’s de facto leader, is likely to gain. International Energy Agency’s latest oil market report puts Saudi’s spare capacity at 2.02 mb/d versus May supply.
Brent crude prices rose 3.4% on Friday, the day the Opec meet concluded. Markets reacted to an effective increase of around 600-700 kbpd of supply, Ashray Ohri of ICICI Bank wrote in a 23 June note.
However, the recent clarification (after the Opec and non-Opec ministerial meeting ended on Saturday) of an effective increase by 1 million bpd is supposed to calm markets when they open on Monday and trade around the $71-74 a barrel range in the near term, added Ohri.
For India, since the relief on oil prices doesn’t appear to be much, risks from a high current account deficit and inflation will persist. Additionally, higher oil prices bring back oil subsidy sharing nightmares for oil producer Oil and Natural Gas Corp. Ltd. The government’s budgetary provision for LPG and kerosene for FY19 at ₹20,800 crore is expected to fall short. Further, in an election-heavy year, state-run oil marketing companies may find it difficult to pass on higher prices to consumers, thus affecting their margins.