The Fuse

OPEC+ May Be Forced to Delay Easing Production Cuts

by Nick Cunningham | November 06, 2020

Europe and the United States are in the midst of a second and third wave of surging coronavirus cases, respectively.

The oil market was already facing some questions about demand, with OPEC+ scheduled to unwind production cuts beginning in January. The latest Covid-19 wave could force the group to extend the cuts once again.

Lockdowns return
France, Germany and the United Kingdom have reinstituted partial nationwide lockdowns, after months of much looser restrictions. Case counts in much of Europe are vastly worse than they were in the initial wave earlier this year.

The situation in the United States is no better. The U.S. recently posted its first day over 100,000 positive cases, a new single-day record. There is little appetite for more stay-at-home orders, but people could reduce mobility on their own. “If the situation gets really dire, however, we presume that a reasonable proportion of the population (as well as increasing numbers of business) takes protective measures proactively,” JBC Energy said in a note.

The firm estimated that the U.S. Midwest, where the worst of the latest surge is unfolding, could see reduced oil demand on the order of 0.5 to 1.0 million barrels per day (Mbd).

Overall, global oil demand could fall by 2.17 Mbd in November compared to a month earlier, according to an estimate from Standard Chartered, largely due to the lockdowns in Europe. “We estimate that global oil demand will fall 8.73mb/d y/y in Q4, a 1mb/d greater decline than we estimated just two weeks ago,” Standard Chartered analysts wrote in a November 3 report.

The bank pointed out that the forecasts from the International Energy Agency (IEA) and the U.S. Energy Information Administration (EIA) have not reflected the worsening demand conditions over the past month. Those agencies will soon publish their November Oil Market Reports, at which point, a downgrade may be in order.

If the recent past is anything to go on, there is every reason to think that the latest wave will not be the last. “That means unless we see a broad change in the policy of protecting healthcare services, we can expect another round of lockdowns in H1 2021,” JBC Energy said. “With demand declining outright every month between now and February and with plenty downside potential, the outlook for oil prices is obviously souring.”

When the new lockdowns were announced in Europe at the end of October, crude prices fell sharply, crashing below $40 per barrel.

OPEC+ extension possible
OPEC+ is currently keeping 7.7 Mbd off of the market, as part of their extraordinary cuts agreed to back in April. They are scheduled to taper that by 2 Mbd in January, bringing cuts down to just 5.5 Mbd. But that schedule was already looking ambitious before the latest coronavirus wave.

Signals from OPEC’s October 19 Joint Ministerial Monitoring Committee (JMCC) meeting suggested that they were at least mulling an extension of the current level of cuts, i.e., delaying the tapering. With demand appearing to take a hit by 2 Mbd or so in November, the lifting of the production limits now looks untenable.

At the same time, any talks of an extension of the current production limits may heighten scrutiny on compliance levels, which appear to be slipping. “A delay in the taper may be forced by the deterioration in global balances; however, from an OPEC+ viewpoint it has the undesirable side-effect of increasing market focus on compliance with targets,” Standard Chartered said. “The signs from early estimates of October output are that some key previous problems have begun to resurface.” Bloomberg estimates suggest that both Iraq and Nigeria overproduced in October. Adding to the complexity, Libya appears set to increase production, with civil war starting to ease.

Nevertheless, OPEC+ officials are now saying that a delay of the tapering beyond January is likely, according to the Wall Street Journal. Demand is just too weak to move forward with loosening of the cuts.

An even more dramatic move would be the possibility of deeper reductions, something that is “now an option,” an OPEC official told the WSJ. There is no guarantee that such an about-face will occur, nor is it clear that it will even be officially considered at the upcoming OPEC meeting in a few weeks’ time, but the fact that some within the group are discussing the notion of cutting deeper reflects the deterioration of global demand.

The other possibility is that such talk could be the latest attempt to jawbone the market. If that’s the case, perhaps it had the desired effect – oil prices rebounded from five-month lows at the start of November on renewed hopes of OPEC+ action.

But any price increase will be fleeting in the face of a worsening demand outlook. That is, unless OPEC+ decides to postpone the plan to ease off the production cuts.