Trading the OPEC meeting

Trading the OPEC meeting

Today the OPEC members are set to discuss in Vienna whether to prolong a production cut agreement reached in November 2016. An extension of the accord could potentially spark a rally in oil prices. In the following article, we will explicate how the deal has been executed, what are its effects. In conclusion, we will present 4 trading scenarios for the outcome of today’s OPEC meeting.

Last autumn the cartel pledged to shave 1.2 million barrels per day off its output, cutting it from 33.7m to 32.5m barrels per day.  The deal was forged due to a surprise agreement between Saudi Arabia, Iraq, and Iran. Saudi were hit the most, they had to lower output by almost 500K per day, while Iraq agreed to reduce its oil production only by 200K. Iran was allowed to increase its production to restore its market share after the period of the US-led sanctions.  

We must note OPEC demonstrated unprecedented discipline in the output cut deal execution. Among all the signing parties only Iraq, Angola and Algeria missed their targets slightly, while Saudi Arabia and UAE exceeded their commitments. The non-OPEC producers that supported the deal show were less disciplined with Russia missing its target and Kazakhstan, Malaysia actually boosting their production. 

OPEC members' compliance with the output cut deal

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Overall, even the attempts to curb production kept oil prices above $50 for a quite long period of time. But some other factors have turned in a negative way for the OPEC striving to stem the global oil glut.

Here the factors that distorted the effect of the OPEC agreement

  1. Following the oil prices increases, US oil industry increased its output at much higher volumes than it was expected. An ever-increasing number of drilling rigs in the first quarter of 2017 led to an even greater increase in oil production.
  2. Libya and Nigeria were exempt from the OPEC’s deal and they increase their output contributing to the erosion of the effects of production cut agreement.
  3. Demand for liquid fuel is softening in the key importers (China, India), and even in the US
  4. The US oil inventories have recently declined, but the number of oil stockpiles is still high. The OPEC expected that 6-month deal would normalize inventories, now it is obvious that more cuts are needed to drain the US oil reserves.

OPEC trading scenarios

  1. 9-month extension of deeper cuts. The odds for the realization of the following scenario is quite high. This would result in a heavy lift of oil prices.
  2. 6-month extension. This is the most expected scenario until only recently. Global stockpiles are still at their record higher levels, and the extension of the deal through the end of this year wouldn’t be enough to elevate oil prices and reduce oil glut. With oil traders wanting deeper cuts, the extension for 6 months would be a disappointment and could send oil prices lower.
  3. No extension. This would be the most disastrous outcome for the oil prices that may drop to their lowest level well below the $50.

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