The last time OPEC (and Non-OPEC) member nations sat down to attempt a coordinated increase in oil prices by cutting production they succeeded… for about three months. Every since then, oil has been on a gradual declining path, boosted by a surge in US shale output and declining global demand, with WTI recently even sliding sliding below OPEC’s implicit price floor of $50/barrel. Which is why on May 25, after the failure of the first 6 month production cut, the same nations will try the same exercise, this time looking to cut output for 9 months, and hoping for a different outcome.
At least that is the general expectation. BofA’s Francisco Blanch has released a note previewing next week’s OPEC meeting titled “OPEC: extend and pretend“, and which boils down to the 3 choices faced by OPEC: maintain, curb, or hike output. For its part, BofA believes that OPEC will extend cuts and hope demand recovers. Additionally, Blanch also states that OPEC’s goal for the oil market is to reach backwardation, not a specific price level and does not believe that OPEC will proceed with deeper cuts as this would likely mean ceding more market share to U.S. shale production.
As Blanch explains in the summary, the global oil market deficit is smaller than the bank thought (see the dramatic, 500kb/d downward revision to global demand growth in chart 2 below) and as a result the cartel is struggling to bring down global stocks. This situation presents a major challenge for the cartel, as OPEC is targeting a shift in the term structure of global crude markets and not a specific oil price band according to Blanch: the idea is to penalize forward sellers and squeeze refiners. But soft demand in India and Mexico, a warm US winter, and an OPEC crude oil production overhang from 4Q16 have gotten in the way of a good plan.
Which brings up a question that has been floated by some (including this site) in recent days: “Why not cut further?”
