OPEC and Russia Collusion on Oil Unlikely – 1/28/16

Rumors of possible cooperation between OPEC and Russia on production cuts gave oil prices a small boost though an agreement to cuts in output remains unlikely.

Since oversupply continues to threaten companies and governments alike, oil-dependent nations like Venezuela are growing increasingly desperate to bring Russia and Saudi Arabia together to come to an agreement on output reductions between the two countries which account for ~13% of global crude production each. The two have also been at odds for most of the price collapse as they compete for market share in Europe. Various officials from each country have made it clear that cuts in output are in the cards so long as both stay true to reduction goals but no meeting has been planned and recent events make one even less likely.

Tensions in the Middle East make it almost unthinkable that OPEC could reach an effective agreement on its own let alone coordinate with Russia. The lifting of sanctions against Iran has freed up the country, one of Saudi Arabia’s most contentious rivals for influence and market share, to begin increasing its output and use freed up assets to support Iranian-backed forces throughout the region. Meanwhile, conflict with ISIS has left Iraq in a poor position for cuts to revenue. Struggling with internal and external hostilities has made OPEC effectively incapable of coordination. The group has publicly opted to not take action so far.

Russia has refused to make cuts to production citing a variety of reasons. Practically speaking, the freezing conditions of main producing regions makes stopping and restarting rigs too costly. Additionally, Russia relies heavily on oil revenues to finance the government which, under Putin, has undertaken several costly shows of military force resulting in even costlier sanctions from the West. All of these issues compounded by the fact that Russian promises are near worthless after promised cuts in the early 2000’s never materialized. Putin’s lack of trustworthiness and interference abroad makes Russia an unattractive bedfellow. Russian closeness to Iran, interference in Syria, competition with Saudi Arabia for Chinese and European market share puts the possibility of a cut where both countries actually follow through in the low single digits at best.

Saudi Arabia’s poor relations with Iran and Russia may keep it pumping even at the unprofitable rates that it hoped to use to temporarily beat back US shale producers. Losing market share to unexpectedly resilient US shale-oil, Saudi Arabia refused to take steps to prop up oil prices it hopes that the new competition would die off quickly. They did not. Now, despite projected failures of many of those US firms in 2016, Saudi Arabia is being called upon to cooperate with the two countries threatening its market share most: Iran and Russia. Barring a miracle, the rivals will continue defend their own interests in this very expensive prisoner’s dilemma.

I can only agree with Goldman Sachs analysts expecting oil to stay between $20 and $40 a barrel for at least the first half of the year. Rebalancing supply and demand naturally will be a long painful slog to be sure, but artificial cuts are a dream for the delusional. When cartel partners are fighting proxy battles, cheating on previous agreements, and hurting for revenue, no mutually beneficial pact will happen. Producers and investors will just have to wait until cuts to investment and company failures begin to take their toll on supply.

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