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Analys

A neat OPEC+ deal: Carrot and Stick

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SEB - analysbrev på råvaror
SEB - Prognoser på råvaror - Commodity

OPEC+ struck a neat deal in our view at the end of last week. The carrot was that if all participants to the deal comply with their individual caps then Saudi Arabia will cut an additional 400 k bl/d versus its obligation. The stick is that the latest deal only stretches to March 2020 and then needs to be reviewed and renewed: “Get in line or you’ll be suffering already in March. Free-riding will be short-lived from now onwards.”

Bjarne Schieldrop, Chief analyst commodities at SEB
Bjarne Schieldrop, Chief analyst commodities, SEB

I.e. they will all receive the benefit of Saudi Arabia’s additional self-imposed restricted cap. However, if they do not comply with their own individual caps they will quickly get caught and brought to justice already in March. I.e. there is significant leveraged upside to comply (windfall from Saudi Arabia’s additional 400 k bl/d cut) and significant downside risk of not complying.

An ultimatum is of course always problematic in the sense that you might have to execute an action you don’t really want to. The main three offenders so far have been Russia, Iraq and Nigeria. Together the offenders produced 0.5 m bl/d above their caps in October 2019 so bringing them into line will help a lot versus overall production.

The new deal means that the risk for a strong stock-build in H1-2020 is significantly reduced and so is the risk for a sharp price drop towards the lower $50ies/bl for Brent.

If producers do not comply with their new caps in Q1-20 then we might be in for some bumps in March as Saudi Arabia then would retract its additional 400 k bl/d cut. It would however not necessarily imply that the whole deal falls apart other than the retraction of the 400 k bl/d additional Saudi cuts.

The sum of reductions in the deal from December 2018 equalled a 1,2 m bl/d reduction from individual 2018 October production levels. The additional cuts agreed last week in sum added 0.5 m bl/d to these cuts and then Saudi Arabia added the carrot of an additional self-imposed cut of 0.4 m bl/d. Thus, in total a reduction of 2,1 m bl/d from 2018 October prod. levels.

What skews the picture is of course the fact they all boosted production in the run-up to the OPEC+ meeting in December 2018. As a result, all these production cuts are coming from close to record high monthly values.

The media is constantly bashing OPEC and OPEC+ plus for cutting and cutting but getting nowhere. Fact is that there has not been a lot of cuts except for the misfortunes of Libya, Iran, Venezuela and Mexico.

If all OPEC 10 members comply with their new production caps then they will produce only 0.7 m bl/d (-2.7%) below their 5 year average. The 10 non-OPEC cooperating countries would produce 0.5% above their 5-year average while the total OPEC+ (19) would produce only 1.4% below their 5-year average production.

Libya, Iran, Venezuela and Mexico are suffering but the others aren’t really suffering very much. They are only cutting their production at the margin. Even Saudi Arabia which is cutting the most on the face of it will produce just 4% below its 5-year average under the new cap. Its 5-year average production is 10.14 m bl/d while its new self-imposed cap is 9.75 m bl/d.

First and foremost, the deal from last week means that OPEC+ is not dropping the ball. It is not letting oil flow freely. It will work actively to prevent an above normal stock-building in H1-2020. High and above normal inventory levels mean a spot price discount versus longer dated prices. Normal to low inventories means a spot price premium of $5-10/bl. That is why OPEC+ so strongly wants to avoid a solid stock building in H1-2020. The longer dated price anchor is $60/bl. So a “premium” situation will hand oil producers a price of $65-70/bl while a surplus inventory situation would give them a $50-55/bl price level.

Adding some confusion to the OPEC mathematics: Ecuador is leaving OPEC in January. The 10 non-OPEC cooperating countries will subtract natural gas liquids from production before applying the new quotas => some problems with historical data.

Table one: Old and new quotas. We have not yet seen the new individual quotas for the non-OPEC countries. These will be adjusted versus new production levels excluding natural gas liquids. The reduction decided in December 2018 was 1.2 m bl/d from Oct-2018 levels. The new cuts are added to these with first 500 k bl/d divided amongst all members and then Saudi Arabia takes on an additional 400 k bl/d cut on top of that. Do note that Saudi Arabia’s average production from Jan-2019 to Oct-2019 was 9.78 m bl/d versus its new cap of 9.74 m bl/d.

Old and new OPEC+ quotas

Ch1: OPEC 10 production versus old and new cap in m bl/d

OPEC 10 production versus old and new cap in m bl/d

Analys

OPEC+ will likely unwind 500 kb/d of voluntary quotas in October. But a full unwind of 1.5 mb/d in one go could be in the cards

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SEB - analysbrev på råvaror

Down to mid-60ies as Iraq lifts production while Saudi may be tired of voluntary cut frugality. The Brent December contract dropped 1.6% yesterday to USD 66.03/b. This morning it is down another 0.3% to USD 65.8/b. The drop in the price came on the back of the combined news that Iraq has resumed 190 kb/d of production in Kurdistan with exports through Turkey while OPEC+ delegates send signals that the group will unwind the remaining 1.65 mb/d (less the 137 kb/d in October) of voluntary cuts at a pace of 500 kb/d per month pace.

Bjarne Schieldrop, Chief analyst commodities, SEB
Bjarne Schieldrop, Chief analyst commodities, SEB

Signals of accelerated unwind and Iraqi increase may be connected. Russia, Kazakhstan and Iraq were main offenders versus the voluntary quotas they had agreed to follow. Russia had a production ’debt’ (cumulative overproduction versus quota) of close to 90 mb in March this year while Kazakhstan had a ’debt’ of about 60 mb and the same for Iraq. This apparently made Saudi Arabia angry this spring. Why should Saudi Arabia hold back if the other voluntary cutters were just freeriding? Thus the sudden rapid unwinding of voluntary cuts. That is at least one angle of explanations for the accelerated unwinding.

If the offenders with production debts then refrained from lifting production as the voluntary cuts were rapidly unwinded, then they could ’pay back’ their ’debts’ as they would under-produce versus the new and steadily higher quotas.

Forget about Kazakhstan. Its production was just too far above the quotas with no hope that the country would hold back production due to cross-ownership of oil assets by international oil companies. But Russia and Iraq should be able to do it.

Iraqi cumulative overproduction versus quotas could reach 85-90 mb in October. Iraq has however steadily continued to overproduce by 3-5 mb per month. In July its new and gradually higher quota came close to equal with a cumulative overproduction of only 0.6 mb that month. In August again however its production had an overshoot of 100 kb/d or 3.1 mb for the month. Its cumulative production debt had then risen to close to 80 mb. We don’t know for September yet. But looking at October we now know that its production will likely average close to 4.5 mb/d due to the revival of 190 kb/d of production in Kurdistan. Its quota however will only be 4.24 mb/d. Its overproduction in October will thus likely be around 250 kb/d above its quota  with its production debt rising another 7-8 mb to a total of close to 90 mb.

Again, why should Saudi Arabia be frugal while Iraq is freeriding. Better to get rid of the voluntary quotas as quickly as possible and then start all over with clean sheets.

Unwinding the remaining 1.513 mb/d in one go in October? If OPEC+ unwinds the remaining 1.513 mb/d of voluntary cuts in one big go in October, then Iraq’s quota will be around 4.4 mb/d for October versus its likely production of close to 4.5 mb/d for the coming month..

OPEC+ should thus unwind the remaining 1.513 mb/d (1.65 – 0.137 mb/d) in one go for October in order for the quota of Iraq to be able to keep track with Iraq’s actual production increase.

October 5 will show how it plays out. But a quota unwind of at least 500 kb/d for Oct seems likely. An overall increase of at least 500 kb/d in the voluntary quota for October looks likely. But it could be the whole 1.513 mb/d in one go. If the increase in the quota is ’only’ 500 kb/d then Iraqi cumulative production will still rise by 5.7 mb to a total of 85 mb in October.

Iraqi production debt versus quotas will likely rise by 5.7 mb in October if OPEC+ only lifts the overall quota by 500 kb/d in October. Here assuming historical production debt did not rise in September. That Iraq lifts its production by 190 kb/d in October to 4.47 mb/d (August level + 190 kb/d) and that OPEC+ unwinds 500 kb/d of the remining quotas in October when they decide on this on 5 October.

Iraqi production debt versus quotas
Source: SEB calculations, assumptions and graph, Bloomberg actual production data to August
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Analys

Modest draws, flat demand, and diesel back in focus

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SEB - analysbrev på råvaror

U.S. commercial crude inventories posted a marginal draw last week, falling by 0.6 million barrels to 414.8 million barrels. Inventories remain 4% below the five-year seasonal average, but the draw is far smaller than last week’s massive 9.3-million-barrel decline. Higher crude imports (+803,000 bl d WoW) and steady refinery runs (93% utilization) helped keep the crude balance relatively neutral.

Ole R. Hvalbye, Analyst Commodities, SEB
Ole R. Hvalbye, Analyst Commodities, SEB

Yet another drawdown indicates commercial crude inventories continue to trend below the 2015–2022 seasonal norm (~440 million barrels), though at 414.8 million barrels, levels are now almost exactly in line with both the 2023 and 2024 trajectory, suggesting stable YoY conditions (see page 3 attached).

Gasoline inventories dropped by 1.1 million barrels and are now 2% below the five-year average. The decline was broad-based, with both finished gasoline and blending components falling, indicating lower output and resilient end-user demand as we enter the shoulder season post-summer (see page 6 attached).

On the diesel side, distillate inventories declined by 1.7 million barrels, snapping a two-week streak of strong builds. At 125 million barrels, diesel inventories are once again 8% below the five-year average and trending near the low end of the historical range.

In total, commercial petroleum inventories (excl. SPR) slipped by 0.5 million barrels on the week to ish 1,281.5 million barrels. While essentially flat, this ends a two-week streak of meaningful builds, reflecting a return to a slightly tighter situation.

On the demand side, the DOE’s ‘products supplied’ metric (see page 6 attached), a proxy for implied consumption, softened slightly. Total demand for crude oil over the past four weeks averaged 20.5 million barrels per day, up just 0.9% YoY.

Summing up: This week’s report shows a re-tightening in diesel supply and modest draws across the board, while demand growth is beginning to flatten. Inventories remain structurally low, but the tone is less bullish than in recent weeks.

US DOE oil inventories
US crude inventories
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Analys

Are Ukraine’s attacks on Russian energy infrastructure working?

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SEB - analysbrev på råvaror

Brent crude rose 1.6% yesterday. After trading in a range of USD 66.1 – 68.09/b it settled at USD 67.63/b. A level which we are well accustomed to see Brent crude flipping around since late August. This morning it is trading 0.5% higher at USD 68/b. The market was expecting an increase of 230 kb/d in Iraqi crude exports from Kurdistan through Turkey to the Cheyhan port but that has so far failed to materialize. This probably helped to drive Brent crude higher yesterday. Indications last evening that US crude oil inventories likely fell 3.8 mb last week (indicative numbers by API) probably also added some strength to Brent crude late in the session. The market continues to await the much heralded global surplus materializing as rising crude and product inventories in OECD countries in general and the US specifically.

Bjarne Schieldrop, Chief analyst commodities, SEB
Bjarne Schieldrop, Chief analyst commodities, SEB

The oil market is starting to focus increasingly on the successful Ukrainian attacks on Russian oil infrastructure. Especially the attacks on Russian refineries. Refineries are highly complex and much harder to repair than simple crude oil facilities like export pipelines, ports and hubs. It can take months and months to repair complex refineries. It is thus mainly Russian oil products which will be hurt by this. First oil product exports will go down, thereafter Russia will have to ration oil product consumption domestically. Russian crude exports may not be hurt as much. Its crude exports could actually go up as its capacity to process crude goes down. SEB’s Emerging Market strategist Erik Meyersson wrote about the Ukrainian campaign this morning: ”Are Ukraine’s attacks on Russian energy infrastructure working?”. Phillips P O’Brian published an interesting not on this as well yesterday: ”An Update On The Ukrainian Campaign Against Russian Refineries”. It is a pay-for article, but it is well worth reading. Amongst other things it highlights the strategic focus of Ukraine towards Russia’s energy infrastructure. A Ukrainian on the matter also put out a visual representation of the attacks on twitter. We have not verified the data representation. It needs to be interpreted with caution in terms of magnitude of impact and current outage.

Complex Russian oil refineries are sitting ducks in the new, modern long-range drone war. Ukraine is building a range of new weapons as well according to O’Brian. The problem with attacks on Russian refineries is thus on the rise. This will likely be an escalating problem for Russia. And oil products around the world may rise versus the crude oil price while the crude oil price itself may not rise all that much due to this.

Russian clean oil product exports as presented by SEB’s Erik Meyersson in his note this morning.

Russian clean oil product exports
Source: SEB, Kepler, Macrobond

The ICE Gasoil crack and the 3.5% fuel oil crack has been strengthening. The 3.5% crack should have weakened along with rising exports of sour crude from OPEC+, but it hasn’t. Rather it has moved higher instead. The higher cracks could in part be due to the Ukrainian attacks on Russian oil refineries.

The ICE Gasoil crack and the 3.5% fuel oil crack has been strengthening. The 3.5% crack should have weakened along with rising exports of sour crude from OPEC+, but it hasn't. Rather it has moved higher instead. The higher cracks could in part be due to the Ukrainian attacks on Russian oil refineries.
Source: SEB graph and calculations, Bloomberg data

Ukrainian inhabitants graphical representation of Ukrainian attacks on Russian oil refineries on Twitter. Highlighting date of attacks, size of refineries and distance from Ukraine. We have not verified the detailed information. And you cannot derive the amount of outage as a consequence of this.

Ukrainian inhabitants graphical representation of Ukrainian attacks on Russian oil refineries on Twitter.
Source: Twitter. Not verified
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