Oil markets firm up, but the big ‘if’ remains

Oil markets are firming up – despite the fact that markets are inundated and glut is still around. But why? A big ‘if’ indeed.

A number of factors, from a declining US output to a weakening dollar are impacting the markets, yet, the biggest apparent break from the recent past is Russia. This is the major transition impacting the markets. A Moscow that was belligerently insisting it could not control or put brakes on its output – due to technical reasons – is finally ready to participate in any such deal.

And the consequence is significant. Despite the fact that Iran continues to insist on not being part of any such deal until it attains pre-sanctions output levels, markets are firming up. The Russian factor is definitely working!

Oil is in with a fifth weekly gain, the longest run since May last year. Prices have surged more than 50 per cent from 12-year lows since the idea of a production freeze was floated.

The recent rally too is being attributed to reports that Organisation of the Petroleum Exporting Countries (Opec) and non-Opec producers, including the top two exporters – Saudi Arabia and Russia, are to hold talks on April 17 in Qatar over a plan to freeze output, increasing the likelihood of the first global supply deal in 15 years.

And indeed the effect of other factors could not be understated. Stronger demand and lowering US shale oil output have also contributed to the current rally. A weakening dollar too has played a role.

All these are definitely pushing bullish sentiments. None can deny. Yet the fact remains the major factor pushing oil prices to 2016 highs, with US crude surging 5pc to pierce through the $40 barrier, remained the optimism in the markets that major producers, Russia included, would strike an output freeze deal next month amid rising gasoline demand in the United States.

This is despite the fact that not all major stake holders are in the camp yet. The biggest hold up is indeed from Iran but the tentative April 17 meeting has buoyed the market sentiments.

Confirming the meeting, the Qatari Energy Minister Mohammed Bin Saleh Al-Sada said on Wednesday around 15 producers in and outside the Organisation of the Petroleum Exporting Countries, accounting for about 73pc of global oil output, supported the initiative.

The freeze however, would only be the first step in a long process. And it should not be confused with a cut. It is a status quo – holding production constant with the expectation that rising demand, plus production declines in some countries will help bring the market back into balance, analysts are underlining.

Yet the fact remains that the very talk of a freeze has pushed the bears – somewhat to the sidelines. The proposal has been interpreted optimistically by the markets as a sign of growing cooperation among major producers, generating expectations that with Russia’s help, Opec could stabilise the oil market.

“The talk of a freeze has certainly shifted sentiment in the oil market away from abject pessimism, and it could end up being the bridge to stabilisation. But it leaves the big questions,” noted Dan Yergin, vice chairman of IHS, in late February.

Since 2014, the Gulf producers have been making clear, they would only agree to some deal if all exporters sign up. On the other hand, Russia has been repeatedly underlining, it does not have the liberty to put brakes on its production. Technically it may not be possible. But now Russia, under budgetary pressure, is on board, agreeing to freeze output at the January 2016 level. And this has altered the overall landscape.

Markets sentiments are comparatively bullish, despite fundamentals continuing to be weak. Russia’s January production of 10.88 million barrel per day was already a post Soviet record high. This means that Russia could freeze production but still increase exports of crude oil relative to oil products by manipulating its tax regime.

On the other hand, Saudi Arabia’s output too was relatively stable in January at near record levels of 10.23m bpd.

With fundamentals still weak, would the rally last and for long – remains a big if. Not all are convinced – a yet.

“Any such deal (to freeze output) would still not be a game changer. It would really just maintain the excess supply that is now in place,” Thomas Pugh of Capital Economics said in a note.

And Mr Pugh has a point.

Source: The Dawn