OPEC+ finally reached an output cut deal, agreeing to increase production by +0.5M bpd from January 2021. The outcome was slightly surprising as the market had anticiapted an extension of output cut fro three months until March 2021. We believe the decision was a compromise among producers of conflicting interests.
The alliance agreed to lower total output by 7.7M bpd from August to December, compared with 9.7M bpd from May to July. The reduction was scheduled to drop further to 5.7M bpd from January 2021 to April 2022. In light of the sluggish global economic recovery, some members of the alliance proposed to maintain the output cut of 7.7M bpd until 1Q21. Despite market expectations that OPEC+ would agree the extension, given the high uncertainty of the pandemic and the global demand outlook, it eventually agreed to raise output by +0.5M bpd. In other words, OPEC+ would, in aggregate, reduce output by 7.2M bpd in January 2021. Going forward, the alliance would meet on monthly basis “to assess market conditions and decide on further production adjustments for the following month, with further monthly adjustments being no more than 0.5M bpd”.
We believe the decision is a big compromise between producers who prefer to maintain a better demand/supply so as to support price, and those who are eager to raise output. The move could temporarily restore solidarity of the alliance. As we mentioned in the previous report, the UAE, a long-term member of the OPEC, was reportedly dissatisfied with the output cut deal. Exit of another member after Qatar would accelerate the collapse of the OPEC cartel.
In our opinion, the change to monthly discussion about the output cut increases flexibility and allows more rapid response to the dynamic market developments. Notwithstanding optimistic vaccine news, huge uncertainty remains associated with the pandemic, hence global economic recovery and oil demand. Monthly discussions on the output adjustment could help producers better achieve the goal of supporting oil price and raising market shares. This might also help constrain US shale oil’s investment should oil price increases. Over the past years, OPEC+ has been restraining output in order to support oil prices. However, this has offered an opportunity to US shale producers, who aggressive raise output to enjoy higher oil prices. Without committing to certain output quotas for months or even quarter, OPEC+ is not anymore sending a message that it would lower output to support prices unconditionally.
Just like other OPEC+ deals, the key to success remains execution and behaviour of exempted producers.