What Will Extended OPEC Supply Cuts Mean for Oil Prices?

Late in 2016, OPEC members agreed to a six-month production cut. Now Saudi Arabia is proposing an extension to the deal.

opec supply cut

Last year, OPEC signed a historic deal with other oil producers to cut production for six months for the first time in eight years.

The six-month period is almost up, but recent reports indicate that it could be extended. Earlier this week, Saudi Arabian oil minister Khalid al-Falih said he expects OPEC’s cuts to be continued to the end of the year or possibly longer. Iraq and Algeria have also signaled that they are in favor of a six-month extension, and the news has sparked hopes of a rise in oil prices.

“There’s an emerging consensus among participating countries on the need to extend the production agreement reached last year,” Saudi Arabia’s OPEC governor, Adeeb Al-Aama, told Reuters.

Oil prices surged past $50 a barrel after the original agreement was made due to hope that the cuts would balance the oversupplied market; however, prices have pulled back since then. That’s partially because increasing production from the US has offset OPEC’s efforts.

“Higher oil production from the US, along with rising oil production from Canada and Brazil, is expected to curb upward pressure on global oil prices through the end of 2018,” Howard Gruenspecht, acting administrator at the US Energy Information Administration (EIA), said in a statement.

For that reason, some market watchers believe further cuts from OPEC would be misguided. “It is an underestimation of shale and a failure to see that the rapid growth in shale is simply displacing investment decisions that are higher up the cost-curve,” analysts at Citibank commented.

Even so, other experts are still cautiously optimistic about the market in 2017, and believe OPEC’s cuts will reduce the global supply glut as early as the end of this year.

“Our analysis of supply and demand shows that if OPEC continues at more or less the same rate of compliance — setting aside increases in Libya and Nigeria — the market does tighten up in the second half of the year,” said Ann-Louise Hittle, vice president of research at Wood Mackenzie.

Similarly, Anastasia Amoroso, global investment specialist at JPMorgan Chase (NYSE:JPM), commented that the oil market is very close to equilibrium, and noted that demand should outpace supply in the coming quarters.

Still others believe that demand, not supply, is the problem. “What we need is real demand growth, faster demand growth,” Kho Hui Meng, president of Vitol Asia, the world’s biggest independent oil trader, told Bloomberg. “Growth is there, but not fast enough.”

OPEC’s next meeting will be held on May 25, and further supply cuts will be discussed then. On Wednesday (May 10), oil prices were up on the back of a fall in US crude stockpiles. West Texas Intermediate crude surged 2.5 percent to reach $47.03, while Brent crude rose 2.4 percent to hit $49.90.

Citigroup (NYSE:C) expects prices for West Texas Intermediate crude to average $55 in 2017 and $57 in 2018. GMP FirstEnergy (TSX:GMP) analysts are forecasting an average $56 in 2017 and $65 in 2018. Barclays (LSE:BARC) estimates that prices will average just $55 in 2018.

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Securities Disclosure: I, Priscila Barrera, hold no direct investment interest in any company mentioned in this article.

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