There were two significant developments last week that shaped oil prices. The first one is that the picture has started to emerge as what to expect when oil ministers from OPEC and the ten non-OPEC countries meet next week in Vienna to discuss the way forward. The second one is the “ccc” (complex, complicated and often chaotic) relationship between the United States and China. The main crude oil futures contracts settled roughly unchanged on the week and the major stock indices lost a little bit of value.
As for the supply management of the global oil market we learnt that there is likely to be an extension of the production deal until the end of June 2020. Since the current agreement runs out in March next year the extension will only be for an additional three months. This is, however, perfectly logical under the current circumstances. Firstly, global oil demand usually picks up in the second half of the year. The latest estimates confirm this. According to OPEC, the demand for their oil will stand 29.00 mbpd in 1H 2020 but will jump to 30.15 mbpd in the latter half of next year. The urgent task, therefore, is to avoid global and OCED inventories building up in the early part of the year. Secondly, there is a great chance that the growth in non-OPEC and within that US production is overestimated. The EIA would disagree with the advocates of this view (they see US production rising to 13.29 mbpd in 2020, an annual growth of 1 mbpd) but restraints on capital spending might actually result in a slower production growth rate than originally anticipated.
What seems to be kind of given after last week’s rhetoric out of OPEC and Russia is that the rollover of the current deal is as good as done. If it is coupled with additional quote discipline, the strategy will bear fruit. OPEC, as a group cannot be blamed of complacency. The eleven member countries with output ceilings are tasked with reducing output by 812,000 bpd from the October 2018 level. A year later this cut turned out to be 1.098 mbpd, an adherence of 135%. Apart from the unplanned cutbacks from Angola and Ecuador, Saudi Arabia was leading the way with a compliance of 231%. Iraq and Nigeria, however, have been producing constantly above their allocated limits. This combined surplus was 300,000 bpd last month. Based on the October figures from secondary sources a disciplined performance from these two countries would push the group’s output level down to 29.351 mbpd. Not exactly as low as the estimated call of 29.00 bpd for the first half but a significant improvement from the current production.
Oil would have performed better last week had it not been for the stalemate of the US-China trade negotiations. The prospects of reaching at least a partial deal looked realistic the week before last but the progress considerably slowed down. The reason for this is twofold. The Trump administration is reluctant to guarantee the rollback of tariffs on Chinese imports as a precondition of the agreement. The US President has made it clear that a complete rollback is out of question. Secondly, China could be alienated because of the US stance of the Hong Kong riots. President Trump is reportedly contemplating signing a bill throwing his support behind the protesters, a step that would certainly trigger retaliation from the Chinese side. Despite the stand-off China allegedly invited US trade representatives to Beijing to continue the talks but the final outcome of the interim deal is far from being clear. We must not forget that the clock is ticking, and the US is likely to go ahead and impose additional tariffs of 15% on Chinese goods worth $156 billion if no consensus is achieved by December 15. Such a move would mark a significant, albeit probably short-term, set-back and would have a negative impact on oil prices.
Between the OPEC meeting and the possible implementation of fresh round of Chinese tariffs investors will have the small issue of dealing with the upcoming UK election OPEC on December 12. The campaign is well under way, but it looks more like an auction where parties do their best to outbid one another in order to get the prized asset – in this case the majority in the British Parliament. The Brexit saga has thrown quite a few surprises at us in the last three and half year and more could be in store. Currently, however, the market is pricing in a relatively smooth Conservative victory. If correct, one uncertainty will be removed only to face another one. Boris Johnson claims that in case of a Tory majority a trade deal could and will be swiftly negotiated with the EU and there will be no need to ask for an extension of the transition period that ends in December 2020. That would leave just eleven months to come to a mutually acceptable trade agreement. Hmmm… It took the EU twenty years to strike the Mercosur deal with South American countries. One could reasonably expect the European Union to play hardball with the UK during trade negotiations, not out of spite, but because it will refuse to treat its ex-member any differently than any other trading partners. The UK Prime Minister promises to “get Brexit done” but it will take much more than just passing it through the Parliament. In other words, no deal is still very much on the table.