Maybe OPEC should stand pat

June 15, 2018 08:29 AM
Daily Energy Market Analysis

As Russia smoked Saudi Arabia in the World Cup, crude oil ministers from those two countries signaled that indeed OPEC and Non-OPEC countries will be raising oil output. Saudi Arabia’s oil minister said it is “inevitable” that OPEC and Russian production will rise by what he says is a "reasonable and moderate" amount. The Russian Energy Minister Aleksandr Novak took it a step further suggesting that OPEC and Non-OPEC could raise production by as much as 1.5 million barrels a day, which is 500,000 barrels more than the market had priced in based on earlier signals from the Saudis and the Russians.

Yet, is a rise in OPEC oil production too little too late? Will a production increase do more damage than good? Maybe OPEC should keep production where it is at so price can try to cool off record demand as opposed to reducing global spare production to dangerously low levels.

The issue will become spare production capacity. If the Russians get their way and we see a rise of 1.5 million barrels a day, then global spare production capacity will fall to only 1.5 million barrels a day. If you compare that to global oil production approaching 100 million barrels of oil a day, that puts the amount of oil that the market can bring on in the case of an emergency almost non-existent, or 1% of global demand. That presents real dangers to the global economy that can suffer the ill effects from a major price spike that could be brought on by a future major oil production disruption.

In fact, there would be more danger to the economy from that type of a spike than a price increase that was driven by demand, raising prices to a point where it would moderate demand. When OPEC and Russia signaled that we would see at least a million barrels of oil a day in future production, spot prices on oil fell in the WTI around $8 a barrel. Already that price drop has encouraged a spike in demand as evidenced by a record implied gasoline number in the United States as well as near-record refinery runs and production. In other words, the drop-in price is encouraging more demand and cutting away at the global oil production. 

In fact, that lack of future capacity might have led to a bigger price spike on news out of Libya. Reuters reported that the major Libyan oil ports of Ras Lanuf and Es Sider were closed and evacuated on Thursday after armed brigades opposed to the powerful eastern commander Khalifa Haftar stormed them, causing a production loss of 240,000 barrels per day (bpd). So subtract that from spare capacity this week.

Natural gas had a bearish injection number but it can’t beat the heat. Platts reported that the Nymex July natural gas futures contract moved sideways Thursday after the U.S. Energy Information Administration announced a 96-Bcf build in storage inventories for the week that ended June 8, an injection substantially greater than market expectations. The front-month contract settled at $2.965/MMBtu, up only 0.2 cents after trading in a range of $2.93/MMBtu to $2.975/MMBtu. The injection came in higher than anticipated. 

The 96-Bcf injection was pretty bearish, and the build was above the five-year average of 91 Bcf and a 88 Bcf build expected by a consensus of analysts surveyed by S&P Global Platts Analytics. Thursday's build pushed nationwide gas stocks to 1.913 Tcf, down 29.1% compared with the same point last year and at a 21% deficit to the five-year average of 2.42 Tcf.  

The reason we are not seeing a big dip is the very strong demand expected in the Midwest this weekend due to hot weather. The market is testing the lower end of the trading range, tempering down the bearishness of the report. The most recent outlook from the National Weather Service calls for higher-than-average temperatures for much of the United States. The exception will be the Southwest region, where the forecast shows milder temperatures.

About the Author

Phil Flynn is a senior energy analyst at The PRICE Futures Group and a Fox Business Network contributor. Phil is one of the world's leading market analysts, providing individual investors, professional traders, and institutions with up-to-the-minute investment and risk management insight into global petroleum, gasoline, and energy markets.