Oil Prices Fall After OPEC Agrees to Extend Output Cuts

The cartel agreed to extend a deal to curb production by nine months.

shaking hands

Oil prices fell on Thursday (May 25) after the Organization of the Petroleum Exporting Countries (OPEC) agreed to extend a deal to curb production by nine months.

The extension was largely expected by the market, but many investors were disappointed that OPEC did not deepen the cuts or extend them by as long as 12 months as was previously suggested.

“A nine-month extension of the output cuts is already baked into prices,” said Olivier Jakob, energy markets analyst at Swiss consultancy Petromatrix. “This shows there’s not much more OPEC can do.”

Brent crude oil was down $2.09, or 3.9 percent, at $51.87 a barrel just before 1:00 p.m. EST on Thursday, while US West Texas Intermediate crude futures were down $2.12, or 4.1 percent, at $49.24.

Michael Cohen, head of energy markets research at Barclays (LSE:BARC,NYSE:BCS), also said the market may have been looking for “the icing on the cake” — in other words, deeper output cuts or limits on exports.

“When those things weren’t included, then this kind of movement happens. We remain constructive on oil prices for next couple months as inventories draw down,” he told CNBC.

For his part, Saudi Energy Minister Khalid al-Falih believes that nine more months at the current level of production is a very safe option that will “do the trick.” He noted, “[w]e have seen a substantial drawdown in inventories that will be accelerated. Then, the fourth quarter will get us to where we want.”

In November, OPEC signed a historic deal with other major oil producers, including Russia, to cut output by a total of 1.8 million barrels a day for six months starting in January. The move was hailed as an unprecedented effort to balance an oversupplied market.

But the agreement, which brought 24 nations together, has failed to eliminate the global supply glut, even with a high level of compliance with the target output. Inventories remain high, and rising US output has offset the cartel’s efforts.

OPEC has a self-imposed goal of bringing stocks down from a record high of 3 billion barrels to its five-year average of 2.7 billion. But the organization faces the dilemma of not pushing prices too high. Higher prices could lead US shale producers to raise their output.

For that reason, some experts are concerned about the extension to cuts. “A nine-month extension is insufficient at shale’s current trajectory. The strategic challenge of shale is still to be addressed,” said Jamie Webster, director for oil at Boston Consulting Group.

Similarly, analysts at Wood MacKenzie believe OPEC is now facing “a tricky balancing act” over how best to reintroduce higher output while avoiding more oversupply. 

“Everyone is watching [the price of oil] with trepidation, not jubilance,” David Arrington, president of shale oil producer Arrington Oil & Gas in Texas, commented. How shale producers respond in coming months will have as much of an effect on pricing as OPEC’s cuts, he said.

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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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