OPEC Compliance On Track, But Anaylst Worries That the Cuts May Now Be Too Much

One analyst sees trouble in record longs combined with U.S. shale galvanized by the higher prices generated by OPEC. File Image / Pixabay

Taken at face value, the Bloomberg survey of analysts, oil companies, and ship-tracking data seems upbeat: it shows that the Organization of the Petroleum Exporting Countries (OPEC) maintained a lid on production in December as the cartel approached a fresh year of expended output curbs intended to bring the market back to full supply/demand balance.

However, the figures point more towards members being thwarted from fulfilling their production goals rather than displaying any enthusiasm for cutback adherence.

For example, Bloomberg credited Libya's 30,000 barrel per day (bpd) decline in December to 970,000 bpd for compensating for a rise in production from Nigeria; however, the decline was due to a pipeline blast that disrupted production, and even though the news agency notes that both countries "are now expected to join the effort with a combined limit of 2.8 million barrels a day," Libya track record of thumbing its nose at OPEC rules render that outcome speculative at best.

Similarly, Bloomberg noted that Venezuela reduced its volumes by a further 50,000 bpdto 1.81 million bpd: however, this is due to the economic collapse of and U.S. sanctions against the Bolivian republic and not any change of heart from a governing body that has repeatedly stated its intention to pump more, not less.

Saudi Arabia's output in December slipped by 20,000 bpd to 9.95 million bpd, but the kingdom has a vested interest in trying to boost crude prices as it prepares to launch its initial public offering of state-run Saudi Aramco, widely regarded as the trigger to a larger economic diversification.

Still, for the time being at least, OPEC is meeting its compliance targets, and this would presumably please experts who spent the bulk of 2017 insisting that only strict adherence to cutbacks would return the market to healthy levels.

But if the opinion of John Kemp, market analyst for Reuters, carries any weight in the larger analytical community, that viewpoint is changing: writing for the news agency, he argues that record net long positions of 1,183 million barrels in futures and options covering crude, gasoline, and heating oil compared to hedge funds of only 145 million barrels of short positions "poses a significant downside risk to prices if and when portfolio managers decide to close them out and realize some of their paper profits."

He goes on to note that OPEC's efforts to tighten the market "probably explains why many hedge funds remain bullish despite benchmark Brent prices moving towards $70 a barrel; the main downside risk comes from a resurgence of U.S. shale oil production, with WTI prices now above $60 a barrel."

Kemp believes OPEC "is more likely to tighten the oil market too much and allow prices to overshoot on the upside than rather than relax production cuts too early and risk prices falling back."

While Kemp has been generous in noting the many market positives that have occurred due to OPEC's efforts, he has remained consistent in warning about potential downsides: in November he predicted that "within the next year, the narrative about rebalancing is likely to be replaced by one about tightening."