The Oil Wolves are at the Gates
Before the ink was dry on the OPEC production accord, the Shale oil producers pounced on the futures market, selling forward all or a big part of their 2017 and 2018 production. The prices they sold at were above US 55 per barrel, and possibly near $ 60. (Actually, they had started selling futures after the OPEC Algiers meeting at the end of September, but dramatically increased sales after the final OPEC production cuts agreement, at the end of November).
This means that the “wolves” are guaranteed to sell all, or most, of their production in the coming two years. And at prices that, not only cover their costs, but likely deliver a profit. To OPEC’s woe, it should now expect rising US oil production for the foreseeable future, which simultaneously, realizes Trump’s desire to restrict oil purchases from North America and possibly Mexico… (and maybe Venezuela, if their president is changed?)
The futures’ market and its traders and speculators strongly influence prices, and they have concluded that world oil supply will rise due to the rise in Shale oil production. Hence, contract prices for 2018 are being struck at slightly lower than 2017.
One of OPEC’s objectives was to stabilize (or reduce) consumer inventory levels, which was expected to reduce price volatility in the short and longer terms, consequently eliminating the benefits of producer hedging. But the final picture is not yet clear, with some data indicating a small reduction in inventory levels last week, while analysts are forecasting rising inventories later on in 2017.
In all cases, Shale oil producers are unlikely to be hurt by the expected drop in 2018 prices, because rapidly improving technologies are lowering their costs. Their production costs were at US$ 80 per barrel, then dropped to $ 70, then $ 60 and are now at around $ 50. They are expected to continue dropping, and may be in the $ 40’s within the next two years. What will OPEC do then?
Future historians may conclude that OPEC’s action last week was, too small and too late. Undoubtedly, as all commercial decisions, it had its justifications and explanations, but also, like all commercial decisions, it was subject to success and failure.
The important question now is: Does OPEC still believe that its top priority should be to destroy the competition and protect market share? This battle seems to have been lost, and it may be wiser to concentrate on not losing The War. The war against reverting to a state of poverty and need. The war to develop their economies, and reduce their excessive dependence on oil revenues.