By James Hyerczyk
Crude oil futures closed higher in November after OPEC agreed to a plan to cut production. The oil cartel agreed to finalize an agreement on November 30 to cut its overall production by 1.2 billion barrels a day.
The reaction by traders was immediate with prices rallying close to 9% per barrel as investors celebrated the long-awaited deal.
February West Texas Intermediate Crude Oil finished November at $50.34, up $2.29 or +4.77%. International Brent Crude closed at $52.53, up $2.61 or 5.23%.
The deal calls for OPEC to set a new production ceiling at 32.5 million barrels a day starting in January 2017. This amount is about 33.6 million barrels a day lower than the cartel pumped in October.
The deal was announced by Qatar’s oil minister Mohammed bin Saleh al Sada who said, “We have been able to reach an agreement. This agreement is out of the sense of responsibility for OPEC member countries, for non-OPEC countries, for the general well-being and the health of the world economy.”
The agreement calls for most OPEC members to cut their production by around 4.6%. Saudi Arabia, the group’s biggest producer, will see its output decline by almost 500,000 barrels a day.
However, most analysts believe the success of the deal will hinge on the cooperation of major non-OPEC producers. They have pledged to cut their production by a combined 600,000 barrels a day. Russia, the world’s second largest producer agreed to slash its production by 300,000 barrels a day.
The plan to cut production is expected to reduce the global supply glut and boost prices.
The deal almost failed to come to fruition because of excessive demands from Iran. Throughout the negotiations, it kept on insisting on keeping its production near 4 million barrels a day. The new agreement will allow Iran to ramp up production by 90,000 barrels a day to just below 3.8 million barrels a day. This comes out as a daily boost of 1 million barrels over its 2015 average.
Both Libya and Nigeria were given exemptions from the production cut because of war and terrorist attacks.
Prices are likely to be underpinned by the OPEC deal in December but gains are likely to be limited. The deal isn’t likely to collapse, which is bullish. However, there are still some issues that need to be worked out with the non-OPEC members. Therefore, OPEC is calling for another meeting on December 9 – 10 in Vienna.
Furthermore, the cartel still hasn’t settled on which month the countries will use as the basis for their price cuts. Recent data shows that OPEC and Russia were producing at near records in November. If they base the production cuts on these levels then the impact of the cuts aren’t likely to put a dent into the oversupply until sometime in mid-2017.
Additionally, U.S. shale producers are expected to ramp up their production while going after OPEC’s customers.
I expect to see a mostly sideways trade in December with a slight bias to the upside as OPEC and the non-members iron out the details. There doesn’t seem to be any reason to chase this market higher until the actual cuts are implemented in January. Furthermore, we’re not likely to see any major impact until later in 2017.
Any rallies are likely to be driven by speculators. I think professional hedging will help limit gains.