Oil pirce tail risk may be fatter than originally anticipated, the Bank of America Merril Lynch (BofAML) analysts has cautioned after their 'Opec-related GCC trip.'
BofAML’s impression from its meetings with key market players in the region is that Opec would be comfortable with shale oil production growth of 300-400kbpd and would abandon the deal if production growth touches 800kbpd to 1mn bpd.
“Our house view currently forecasts US shale growth of 680kbpd in 2017 and 880kbpd in 2018 , which is rapidly approaching Opec’s tolerance levels. So far, the bulk of the increase in US oil production in 4Q16 was coming from already sanctioned production from the US Gulf of Mexico and not from US shale oil producers. Opec's target to push the crude oil curve into backwardation will help discourage forward selling”, BofML's GCC trip note said.
The market may be under-appreciating Opec’s internal debates and scrutiny of shale oil production. A more flexible renewal of the deal for three months rather than six months is among proposals being examined. BofML thinks that this may be negatively perceived unless appropriately communicated to the market. The absence of an articulated post-deal exit strategy suggests that a return to a battle for market share when the agreement lapses is not to be fully excluded.
The potential Aramco IPO could suggest incentives to support oil prices, the BofAML note said.
“Our impression from our meetings is that Opec views the lack of material adjustment in US inventories as mainly caused by low seasonal demand, refinery maintenance and the delayed impact of higher Opec oil production in November and December. The latter is due to the fact that contracted oil supply during that period will still be reflected in import arrivals in 1Q17 due to transit and transportation time. The refinery maintenance impact could be seen in the accompanying drawdown in oil product stocks. The end of the refinery maintenance season, the ongoing reduction in floating storage and the reduction in Saudi US oil exports support continued progress on market rebalancing.”
Tight oil production growth may approach Opec tolerance levels. Our impression from our meetings is that preparations for the potential partial listing of Saudi Aramco in 2H18 could provide an incentive for Saudi Arabia to continue its efforts to manage the market through coordination with other oil exporting countries.
The potential lack of an Opec exit strategy could likely require Saudi Arabia to act as a swing oil producer. Saudi Arabia could be willing to do so if its hypothetical market share loss to competitors would not be material.
