The world’s top oil producers pulled together a historic deal that should remove about 20 percent of current oil production from world markets to face up to the evaporation of global demand caused by the coronavirus pandemic.
After a week-long marathon of bilateral calls and video conferences of ministers from the OPEC+ alliance and the Group of 20 nations, an agreement finally emerged to tackle the impact of the pandemic on oil demand.
Prices rose more than 4 percent to almost $33 a barrel in London after swinging wildly in the first few minutes of trading following the deal. The focus now shifts to whether the cut will be enough to dent the massive glut that keeps growing as the virus shuts down the global economy.
The talks had almost fallen apart late last week - amid resistance from Mexico - but came back from the brink after a weekend of urgent diplomacy. President Donald Trump intervened, helping broker the final compromise.
“Congratulations to OPEC+ for an historic output cut! The problem is I can’t look forward because there is no visibility on demand. All the demand estimates have been revised down regularly so I have no confidence in the third quarter rebound that the market is pricing in,” wrote Gary Ross, CEO of Black Gold Investors, on Twitter.
OPEC+ will cut 9.7 million barrels a day, or approximately 20 percent of its output for May and June this year. This equates to 10 percent of global supply. OPEC will meet again on June 10.
Saudi Energy Minister Prince Abdulaziz bin Salman in an interview with Al Arabiya shortly after the deal was done that Crown Prince Mohammed bin Salman led many of the most critical negotiations to reach the agreement.
“The Crown Prince spearheaded many major negotiations… On March 6, we were trying to cut the output by 1.5 million bpd… and today... we are in a different situation, we reduced the output by nearly 10 million bpd,” he said.
On top of the 9.7 million from OPEC+, the US, Brazil and Canada will contribute another 3.7 million barrels to the cut as their production declines and other members of the Group of 20 most advanced economies will contribute 1.3 million, according to official estimates. Still, the G20 numbers don’t represent real voluntary cuts, but rather reflect the impact that low prices have already had on output and would take months to come into effect. The International Energy Agency, which represents oil consuming nations, is expected to instruct its members to increase their acquisition of oil for strategic reserves, removing further barrels from the market.
“What this deal does is enable the global oil industry and the national economies and other industries that depend upon it to avoid a very deep crisis,” said IHS Markit Vice Chairman Daniel Yergin told Reuters.
“This restrains the build-up of inventories, which will reduce the pressure on prices when normality returns – whenever that is.”
Last minute negotiations were moved forward by US President Donald Trump, who has refused to mandate a cut in American oil production. Trump helped to broker the deal in phone calls with Saudi King Salman bin Abdulaziz al-Saud, Mexican President Andres Manuel Lopez Obrador, and Russian President Vladimir Putin.
“President Trump is modest in saying that only hundreds of thousands of jobs will be saved as a result of this, we believe that more than two million jobs in the US will be saved as a result of President Trump’s leadership on this,” the head of Russia’s sovereign wealth fund Kirill Dmitriev told CNBC on Monday.
Trump became the first American president to push for higher oil prices in more than 30 years, reversing his personal opposition to the cartel.
“I hated OPEC. You want to know the truth? I hated it. Because it was a fix,” Trump told reporters at the White House last week. “But somewhere along the line that broke down and went the opposite way.”
‘Half the ransom money’
The production restraints are set to last for about two years, though not at the same level as the initial two months. Copying the model adopted by central banks to taper off their bond buying, OPEC will also reduce the size of the cuts over time. After June, the 9.7 million bpd cut will be tapered to 7.6 million bpd until the end of the year, and then to 5.6 million through 2021 until April 2022.
“On a positive note, OPEC+ today managed to reach a historic deal to make the single largest output cut in history, after a compromise was reached with Mexico,” said Rystad Energy’s Head of Oil Markets Bjornar Tonhaugen.
“However, even though OPEC+ has decided to attempt to bail out the global oil market, the group has unfortunately only come up with half of the ransom money. We believe the market’s disappointment will reflect in prices already from April due the lack of size and the speed of the supply removal,” he added.
Under the terms, Saudi Arabia will cut its production to 8.5 million barrels a day – its lowest level since 2011. The OPEC+ deal measures the Saudi cut from a baseline of 11 million barrels a day, the same as Russia. But in reality the Kingdom’s production will decline from a much higher level.
Saudi Arabia had boosted production to 12.3 million barrels per day after Russia refused to a round of earlier output cuts in early March designed to counter early falling demand due to the coronavirus pandemic. Russia’s decision triggered a price war for market share, with various producers pumping additional crude to defend their market share.
The coronavirus has decimated demand as countries look to extend lockdown procedures to contain the spread of the virus. OPEC itself acknowledged the challenge, with its chief warning ministers demand fundamentals were “horrifying.” In an internal presentation seen by Bloomberg News, OPEC told ministers it expected global oil demand to plunge 20 million barrels a day in April.
“Further down the line, however, this deal may be bullish as OPEC+ plans to endure with the 6 million bpd cut through 2021, when oil demand most likely will have recovered back to normal and as supply capacity will have sustained a lasting damage,” Tonhaugen added.
With Bloomberg, Reuters