Will the G20 sign up to biggest-ever global oil supply deal?
The world is on the cusp of the biggest-ever global oil supply deal after Saudi Arabia and Russia agreed to make large cuts to production in response to the coronavirus crisis.
A month-long price war and the fallout from the pandemic have driven oil prices to their lowest levels in 18 years and threatened to wreak havoc on the energy industry.
A meeting of G20 energy ministers, including the US, Canada and other countries is taking place on Friday, with expectations they will make a contribution to stabilising a market hit by the sudden loss of more than 30 per cent of demand.
But what is the likely outcome? And will it be enough to shore up one of the most vital sectors of the world economy?
What has been agreed?
Opec and allied producers have agreed to cut a record 10m barrels a day of production, with Saudi Arabia and Russia together sharing half of that total between them.
Other so-called Opec+ producers agreed to remove an additional 5m b/d, with the exception of Mexico, with the group calling on the US, Canada and other producers to supplement the deal by another 5m b/d when G20 energy ministers hold an extraordinary meeting on Friday.
If ratified it has the potential to be the biggest supply deal in history and, in total, would be the equivalent of 15 per cent of pre-crisis demand. Traders have warned oil prices will fall into “single digits” without a deal, upending the industry and causing millions of job losses.
The cuts between the Opec+ coalition — made up of core Opec members and allies such as Russia — will gradually weaken from 10m b/d in May and June, to 8m b/d for the rest of the year, before dropping to 6m b/d between January 2021 and April 2022.
As of Friday morning the only holdout to the Opec+ agreement was Mexico, which has been unwilling to make deep cuts.
Will it work?
The oil market reaction was initially relief that a shortlived price war between Saudi Arabia and Russia was over, but then concern that even the largest oil supply deal in history might not be enough.
With global consumption estimated to be down about a third from pre-crisis levels of 100m b/d, a 10m barrel cut — even if later increased by contributions from countries such as the US — will struggle to significantly boost prices.
After first rallying as the Opec+ meeting started, Brent crude fell almost 14 per cent from its high point of the day, dropping back towards $30 a barrel. It was trading near $70 in January.
“The proposed 10m b/d cut by Opec+ for May and June will keep the world from physically testing the limits of storage capacity and save prices from falling into a deep abyss,” wrote analysts at Rystad Energy, a consultancy. “But it will still not restore the desired market balance.”
Longer term, there is hope that the end of the price war that broke out last month between the world’s two largest oil exporters will lead to greater market stability. But Saudi Arabia’s relationship with Russia may still be tarnished, with only the extent of the crisis rekindling their alliance for now.
Will this really be a global supply deal?
Donald Trump, US president, has been pressuring Saudi Arabia and Russia to end the price war. Now he needs to decide what contribution, if any, the US can make.
Having become the world’s largest oil producer thanks to the US shale revolution over the past decade, low oil prices are no longer a guaranteed boost to the US economy, even as it remains the biggest consumer.
Large G20 oil producers, including the US, Canada, Mexico and Brazil, will have their energy ministers discuss contributions to a supply deal for the first time. The UK’s Kwasi Kwarteng will attend, alongside counterparts from France, Germany, Japan and others.
Fatih Birol, head of the International Energy Agency, has warned that the “extreme volatility we are seeing in oil markets is detrimental to the global economy at a time when we can least afford it”.
G20 countries are, however, broadly unlikely to offer government-mandated production cuts. Instead they are expected to highlight how privately owned energy companies have already slashed investment due to the price crash. Production will, therefore, fall regardless.
Other countries in the G20 are also expected to be asked to buy up cheap oil for their strategic oil reserves — stockpiles held for an emergency — to help boost demand, which will be included in the 5m b/d target contribution.
What does it mean for the oil sector?
The deal has shifted trader sentiment from perceptions of a market in freefall to one with a new floor. The cuts’ duration, with 6m b/d to be removed until April 2022, adds to this. The oil industry has never had such a drastic supply-side intervention.
But a price rescue this is not — as Brent’s fall on Thursday evening showed.
Oil companies will remain under the twin pressures of collapsing demand and the reality of a price likely to stay below the $40-50 a barrel needed by many non-Opec producers to break even.
Weak oil-producing economies, from west Africa to the Middle East, face a bleak outlook, as budgets shrink just when funds are needed to combat coronavirus.
Production will still fall, especially in high-cost US and Canadian fields.
Scott Sheffield, head of Permian shale producer Pioneer Natural Resources, said at $35 a barrel US output would drop by 3m b/d. Rystad Energy said Canadian production would fall 1.1m b/d in the second quarter of this year.
“The cut will eliminate the political pressure on Russia and Saudi Arabia, but won’t be enough to counter the coronavirus impact on demand or prevent shut-ins in shale,” said Anas Alhajji, an adviser to oil companies and producer countries.
What was the US reaction?
The terms of the deal — cuts of 10m b/d — are those that were predicted by Mr Trump last week. He said on Thursday evening, after a “very good call” with President Vladimir Putin of Russia and King Salman of Saudi Arabia, that the market may “be hitting bottom”.
The deal should satisfy each side of a divided US oil industry. Before the meeting, shale companies lobbied Mr Trump to impose sanctions on Russian and Saudi crude.
But ExxonMobil and Chevron, among other big American oil companies, had lobbied for the US to let free markets rule, even if the oil price falls further.
The Opec-Russia deal makes no demands on North American producers to cut more than they will be forced to under price pressure anyway.
This was a diplomatic victory for the Trump administration, which urged Saudi Arabia and Russia to end their price war without conditions.
Harold Hamm, head of Continental Resources, one of the US’s biggest shale producers, and a close friend of Mr Trump, applauded the Opec decision and said it was “a good and necessary first step to restore some sanity” to oil markets.