Global crude production is being cut, but plenty of risks remain

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Oil prices enjoyed a strong end to the week, boosted by optimism that a gathering of OPEC and non-OPEC nations over the weekend would reveal that announced production cuts for the first half of 2017 — agreed to late last year — were being adhered to.

Front-month Brent crude futures — the global benchmark price for crude oil — rose by 2.46% to $$US55.49 per barrel, according to pricing from Thomson Reuters, leaving it near the multi-year high of $US58.37 per barrel struck on January 3.

Front-Month Brent Crude Futures – Hourly Chart

Well, it appears the optimism expressed by markets was warranted.

Here’s Vivek Dhar, a mining and energy analyst at the Commonwealth Bank, in his Monday morning note:

An OPEC committee together with Russia and Oman have agreed on a monitoring process that will ensure compliance from 24 countries with an accord signed late last year. The deal that will sideline 1.8% mb/d [million barrels per day] of oil output (around 1.8% of global supply) in 1H17 appears ahead of forecast. Saudi Arabia said 1.5mb/d of supply has already been cut, implying around 83% of the proposed target has been achieved. Russia also said that its output has been reduced by around 100kb/d already, a month earlier than it expected and well on its way to cut around 300kb/d by April or May. Several signatories to the deal signalled that compliance is forthcoming from all members.

So crude output is being cut — as agreed beforehand –with all members toeing the line, at least in the early days of the agreement.

Dhar says that “concerns that OPEC and other oil producers will not comply with their agreement from late last year have weighed on oil prices” in recent weeks, noting that based on the evidence presented over the weekend, helping to alleviate those concerns, “will mean higher oil prices.”

However, despite promising early signs that the deal struck between OPEC and non-OPEC workers is succeeding in helping to reduce excess supply in crude markets, may be a short-lived phenomenon based on recent commentary from Saudi Arabia, OPEC’s largest crude producer.

“Saudi Arabia’s oil minister Khalid Al-Falih says it may not be necessary to extend the deal reached by the group and some non-member nations to cut oil supply by around 1.8 million barrels a day beyond its initial six months, and that doing so could create a shortage,” Julian Lee, an oil strategist at Bloomberg First Word, wrote on Sunday.

Lee says the view expressed Saudi, based off one set of production figures, “seems a very quick and painless solution to an oversupply problem that has bedeviled the oil market for the past two years, brought several producers to the brink of collapse and tipped others over it”.

It’s likely that many others will share Lee’s cautious view, particularly given separate news released on Friday showing a steep increase in the number of shale oil wells in operation in the United States.

According to data releases by Baker Hughes, the US oil rig count jumped by 29 to 551 last week, the largest weekly increase since April 2013.

Total rigs in operation have now recovered by 74% since late May, last year, something Dhar says will add to surplus concerns.

In early January, Dhar said that strength in crude prices risked bringing even more US crude production back online, creating a potential supply boost that may undo OPEC’s desire for higher prices.

As a result, he saw the crude oil price averaging between $US50-60 per barrel in 2017.

Given the uplift in US oil rigs in use — a lead indicator on supply — it’s easy to see why many remain cautious on the outlook for prices, and underscores why not everyone thinks that bringing global crude markets back into equilibrium will be achieved within a matter of months.

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