Oil Below $75: Increased Chance of OPEC Production Cuts

By Jason Simpkins

Oil prices slid below $75 a barrel yesterday (Wednesday) skidding to a new 12-month low and increasing the chances that the Organization of Petroleum Exporting Countries (OPEC) will cut production at its next meeting on Nov. 18.

Light, sweet crude for November delivery fell $4.47, or 5.68%, to settle at $74.16 a barrel on the New York Mercantile Exchange.

The price has now tumbled nearly 50% since peaking at a record-high of $147.27 on July 11. Gas prices have followed suit dropping 25% since breaching $4 a gallon in July. A gallon of regular gas fell by about 4 cents a gallon overnight to a new national average of $3.125, auto club AAA reported.

The credit crisis has emaciated countries around the world, sparking fears that a severe global recession is just beginning to set in. The outlook for energy has darkened substantially as a result.

The International Energy Agency (IEA) lowered its forecast for 2008 global demand growth by 250,000 barrels per day (bpd) to 440,000 on Oct. 10. The agency cut its 2009 growth forecast by 190,000 bpd to 690,000.

Yesterday, in its monthly report, OPEC reduced its forecast for 2009 demand by 190,000 barrels a day as well. It was the cartel’s seventh consecutive forecast reduction. OPEC said that total oil consumption in developed countries fell by more than 1 million bpd in the year through September.

Developed nations in 2009 will need only 400,000 barrels a day more oil than this year, the cartel said, whereas demand from emerging markets will increase by an estimated 1.1 million barrels.

The forecast reduction comes approximately one month before OPEC members are scheduled to meet in Vienna, Austria to discuss current production volumes.

Last week OPEC President Chakib Khelil said it was “very likely” that the group would cut production at its Nov. 18 meeting.  “The Organization is concerned about the deteriorating economic conditions with contagion risks,” Khelil said.

The cartel cut production by 520,000 bpd in September, though Saudi Arabia, the cartel’s largest and most influential member hesitated in taking action.

That may change in November, as the economic outlook is considerably weaker.

"OPEC has to restore balance between supply and demand,” Abdullah Al Attiyah, Qatar’s oil minister told the London-based Arabic daily Al Hayat. “We will focus on the level of demand which will decline below supply contracts so we can avert a bigger problem in the future, which is a large increase in supply."

Attiyah did not elaborate on the size of the cut, but sources close to OPEC told the paper it could be around one million barrels per day.

Strangely enough, it’s unlikely that the countries that have lobbied the most for a production cut in the past will actually be the producers to cut production. Iran, which is rapt with economic sanctions, and Venezuela, which relies heavily on energy exports to fund President Hugo Chavez’s social agenda, desperately need the revenue.

That means Saudi Arabia, which controls a quarter of the world’s oil and pumps over 10% of the global crude supplies, will bear the greatest responsibility in cutting production.

“I think the cut will not be very big considering the fact that Saudi Arabia believes a price of $85 is suitable and not worrying for its economy as the Kingdom and other Gulf oil producers have based their budgets on an oil price of $45-50 a barrel,” Mohammed Al Ramadi, an economics professor at King Fahd Petroleum University told Emirates Business 24/7. “This means the situation is still not worrying."

Comments

[cjct:]

The problem for OPEC is that they can get together at the meetings and say they're going to cut all they want, but as soon as those oil ministers leave the meeting they go right back to their respective countries and cheat on their quotas with such regularity that the market really discounts their production increases or decreases because of a complete lack of credibility.

2008 Oct 16 09:38 AM

[blu:]

Oil will rebound soon. The demand destruction just ended in the States.
Cars are lined up locally at the filling stations today to buy "cheap" 2.63/gal. gasoline.
Producing countries have won the psychological war by setting a new floor above $60/bbl.... the pendulum continues to swing toward lower prices, but it has already seen the end of demand destruction. Recovery will soon begin and drive the price to new highs in the long term.
Drill Baby Drill

2008 Oct 16 12:05 PM

[CLH:]

There is little chance of OPEC cutting oil production enough to raise the price of oil. Greed is greed and as their prices drop they will raise production --trying to keep their loans going. Oil could go to $30 (earlier I said $50) a barrel. It could be 10 years before oil gets back to $100. $100 a barrel was a bubble and unjustified.

2008 Oct 16 12:09 PM

[Ferdinand E...:]

$100/b was reached because demand outran supply, and we would have that price - or more - today if it had not been for the ongoing macroeconomic meltdown. But yes, the oil price could go lower because - as pointed out above - greed is greed, and when combined with irrantionality, economic reasoning doesn't count for much. It is also true though that the oil market has been exceptionally good to many of the oil exporters over the past few years, and as a result they might feel that it is a nice gesture to give the oil importers some badly needed assistance.

2008 Oct 16 01:34 PM

[Shiv Kapoor:]

When demand for oil is perceived as rising and production is at existing capacity, a cut by OPEC puts a firm floor under prices. When demand for oil is perceived as falling and production is below existing capacity, a production cut will lead to quite the opposite; prices will fall because there is the comfort that future increase in demand can be met from existing capacity. Medium term, demand will rise but there are increases to existing production coming up from Angola, Brazil, GOM and Saudi; supply and demand is well balanced. In such situations, oil should trade at close to the demand led equilibrium (marginal cost of production) - approximately $60. Oil could get over-sold on recession fears, but I do not see it falling below $50. I would look for average prices of $100 over the course of the coming 5 years.

When the economic expansion starts (and this is inevitable - it is a question of when not if), oil will rally sharply from a higher base. While I do not expect it, I would not be surprised to see oil hit $200 when growth in perceived demand rises above existing production capacity. Basic materials and energy are in a very strong fundamental position because of EM demand and this will last several years. Oil prices are going to remain high for a while yet - the inflation adjusted historic price which is at over $100 is not an unreasonable estimate. Only thing that will reduce oil price expectations is:
(a) long demand destruction (unlikely due to EM growth)
(b) significant energy alternatives (unlikely until oil prices are at economically un-sustainable levels for a long while - e.g. major shift to nuclear, battery operated cars, improved solar technology, wind technology, hydro technology etc - energy intensity {% of energy component in each $ of GDP} is low in the developed world so oil price does not matter as much as it has in the decades past).
(c) new supplies coming from E&P activity including ultra deepwater exploration to exceed elevated demand from EM's (likely to keep demand and supply in balance but certainly not yet at a point where there will be excess capacity)
(d) new drilling technologies to reduce producer costs (nothing new on the horizon - dual drilling table and dual stack drill rigs {semi submersibles & drill-ships} have already been in place several years). Producer capex inflation is running at 12% and producer opex inflation is running at 6%; the latter will moderate very fast after oil prices fall but the former will moderate only after 2012 when new drill rig availability to match demand is apparent. There is and has been heavy new build activity since 2003, once these rigs are available utilization ratios will come down from 100% and that is when you will see capex pressure on produces pull off because day rates on ultra deepwater assets will ease from historic highs we see today.
This downturn in oil is economic cycle related. It does not mark the end of an era of fundamental strength for the sector.

2008 Oct 16 02:20 PM

[Shaggieman:]

LONDON (Dow Jones)–The Organization of Petroleum Exporting Countries on
Thursday moved forward an emergency meeting to review its production policy by
nearly one month, underscoring the cartel’s concern about falling crude prices.
“OPEC nations are reliant on oil revenues and to the extent that prices have
fallen this far, we are very concerned,” Nigerian Oil Minister Odein Ajumogobia
told Dow Jones Newswires by telephone from Nigeria.
OPEC, in a short statement, said the meeting will be held Oct. 24 at the
group’s headquarters in Vienna rather than Nov. 18, as previously scheduled.

2008 Oct 16 03:07 PM

[Joshua Lacey:]

Our country is indeed entering very dark economic times. We need a president/government who will realize the correlation between fuel prices and our rapidly declining economy. One who will put working toward energy independence at the forefront of their agenda. The high cost of imported oil has negatively affected every aspect of our economy greatly contributing to the inordinate loss of jobs and houses. OPEC is planning to cut production again. We have so much available to us such as wind and solar and modern technologies such as hybrid and elec plug in car technology yet we continue to be slaves to imported oil. I am reading a newly released book by Jeff Wilson called The Manhattan Project of 2009. So incredibly enlightening . I wish I could afford to buy every member of congress a copy.

2008 Oct 16 06:41 PM

[Recourse Bob:]

OPEC seems to forget that they are, in part, responsible for the recession in the US. The high crude oil prices depressed our economy before the credit crunch hit. That is, people were suffering from high oil prices before they had problems with high mortgage interest costs and foreclosures, if you all recall. High oil prices caused many homeowners not to be able to make their house payments. So let OPEC raise oil prices more in the midst of the US going into a recession, and then let's watch demand for oil fall further. OPEC's greed will cause them more pain.

2008 Oct 16 10:11 PM

[RSAAKKS:]

You noted that "Developed nations in 2009 will need only 400,000 barrels a day more oil than this year, the cartel said, whereas demand from emerging markets will increase by an estimated 1.1 million barrels". It is amazing that this is all it takes to trash the "peak oil" forecasts, and how the supply is tight, and how the world is running out of oil, and oil must go to $200 or even $300---so much for the experts. May be if the demand increases by 10,000 barrels again, world will be short on oil and we will finally hit oil at $300. Folks, it is all Da Boyz fooling the folks, just a way to make a buck. Nobody knows where supply and demand is going!

2008 Oct 16 10:32 PM

[mangolfer:]

Yea, every conusmer I know is trying to use more oil right now.....

2008 Oct 17 06:43 AM