What a difference a day makes. After sending negative ructions across oil markets on Monday, OPEC+ members made amends yesterday by breaking the deadlock and delivering a bullish supply agreement. The producer alliance agreed to keep production broadly steady in February and March as countries battle rising Covid cases with fresh lockdown measures. Output will increase by 75,000 bpd next month and by a further 120,000 bpd in March, bringing the group’s total cuts to 7.05 mbpd, down from 7.2 mbpd currently.

Yet the icing on the cake came from Saudi Arabia’s late announcement that it would voluntarily cut an additional 1 mbpd in February and March from January’s levels. All the while, the rest of OPEC+ will hold output steady with the exception of Russia and Kazakhstan who got the green-light to ramp up production. Riyadh’s decision to effectively forego market share represents a capitulation to Russia’s demands to boost output. Furthermore, it highlights the divide between OPEC and non-OPEC members and their differing agendas.

Nevertheless, rather than being taken for what it is – a sign of weakening demand – the Saudi surprise sent oil prices skywards. Brent rallied $2.51/bbl and WTI surged $2.31/bbl to settle at fresh 11-month highs. Further headway into positive territory is being made at the time of writing amid expectations for a bigger-than-expected drop in US crude stocks. Overnight, the API reported a forecast-beating draw of 1.7 million bbls in the last week. There was no such joy for products as gasoline and distillate fuels inventories surged by a whopping 5.5 million and 7.1 million bbls, respectively. Meanwhile, market players are also bracing for the prospect of a blue sweep. The Democrats have won the first election runoff and hold a narrow lead in the second of a dual senate race in Georgia.

Place your bets

The new year is upon us. Cue the rush to predict what will happen to oil prices in 2021. Gazing into a crystal ball is always fraught with difficulty. However, on this occasion, there is a vibrant hope that the oil market recovery will shift up several gears this year. A sizeable crude deficit is pencilled in for 2021 amid expectations of a vaccine-driven rebound in demand and continued supply restraint from OPEC+. This supportive outlook has already prompted some to forecast that Brent will reach $65/bbl by the end of the year. The reality, however, may be far less auspicious.

Analysts polled by Reuters at the end of December expect Brent to average a smidge above $50/bbl this year. At the heart of this gloomy forecast is the key downside risk for oil prices in 2021: will the new Covid-19 strain that has triggered a flurry of fresh lockdown measures weigh on economic activity and travel demand? In short, the major driver of oil prices in the early part of this year is the trend in coronavirus infections in major economies, and how quickly governments move to rollout vaccines.

Particular attention should be paid to the pace of deployment of national vaccination campaigns. While it is still too early to say whether they will succeed in bringing infection rates under control, what is clear is that it will take longer than initially thought. The flurry of optimism that arrived with the approvals of new vaccines has been followed by delays, shortages and bureaucratic mishaps. Consequently, it has become clear that many governments will miss their targets for mass inoculations. In turn, this will ensure a continued backdrop of demand uncertainty in the oil market.

Aside from the pandemic, the price of oil in the coming months will also depend on the ability of OPEC and Russia to maintain fidelity with a global supply cut pact in 2021. And no sooner had the smoke from New Year firework displays lifted, Saudi Arabia and Russia found themselves at odds over boosting output. The upshot is that Monday’s decision on February output levels was unexpectedly postponed. The two OPEC+ kingpins eventually reached a compromise yesterday, but the seeds of discord have been sowed. Simply put, expect more quarrelling further down the line.

Staying on the supply front, another key factor is the trend in US oil production. Not only will this have implications for the supply side of the price equation but also OPEC+ production strategy. After a brutal 2020, the US oil sector is showing signs of stabilising. Crude production has steadied at 11 mbpd and is well positioned to make modest gains in the coming months. This is because current crude prices incentivise US shale production growth. Indeed, US oil rigs rose for a sixth straight week in the seven days to January 1, according to Baker Hughes. All the while, adding a further string to the US shale’s bow is the expected ramp-up of digital initiatives aimed at driving down costs and optimize the workforce. Though US producers will have a hard time returning to 2019’s peak of 13 mbpd, the current odds favour a stronger-than-expected shale recovery in 2021.

What then is the outlook for crude oil prices in 2021? While a scenario of higher levels of oil consumption later in the year is assured, the spike in coronavirus infections and spread of new variants is casting a shadow on near-term demand prospects. As such, prices should see limited upside potential in the first half of the year. Beyond then, crude balances should tighten further as the impact of the global vaccination drive begins to be felt in earnest. This, in turn, should set the stage for a sustained price recovery. Before that, however, expect the oil market to swing like a pendulum.