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Has This Record-Breaking Oil Rally Gone Too Far? | OilPrice.com


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The Covid-19 pandemic has ravaged energy markets and decimated demand. Of the three fossil fuels, coal, natural gas, and oil, demand for the latter was affected most due to its importance for the transportation sector. With grounded airplanes, reduced shipping, and parked cars across the world, the consumption of petroleum products decreased significantly in 2020. As demand recovers and oil prices rise at the beginning of this year, markets are increasingly concerned that the OPEC+ agreement that has provided moderate stability, could be about to fall apart.

Last year, two of the three largest oil producers in the world, OPEC’s de-facto leader Saudi Arabia and Russia, agreed on production cuts to stabilize the market and to prop up prices. This led to a record 9.7 million barrels per day (mbpd) being taken off the market. Although it’s a massive number under normal circumstances, the cuts were barely enough to stabilize prices.

During the last OPEC+ gathering, negotiations were particularly difficult due to the diverging views of Russia and Saudi Arabia. For Riyadh, Moscow’s continued participation is crucial. Despite the challenges, the involved parties agreed to extend the production cuts. Russian producers were allowed to increase production in February and March by 65,000 bpd, while the Saudis voluntarily decreased production by one million bpd.

The parties are scheduled to meet again on March 4 to discuss production levels for April. The unprecedented price rally of the oil markets will undoubtedly create tension between the negotiators. According to Eugene Lindell from Vienna-based JBC Energy, “I do think that this meeting is going to be more difficult for Riyadh to argue for restraint, even though from a balanced perspective they [OPEC+] should restrain. So, make no mistake about that, the demand has not come back. The price is in a way artificially high. It’s gotten ahead of itself. It’s pricing more on future expectations than on current fundamentals.”

Related Video: To Pump Or Not To Pump: Big Oil Diverges On Production Strategy

The different views of Moscow and Riyadh are primarily caused by the countries’ diverging production and fiscal break-even prices. Both states enjoy low production costs. Saudi Aramco produces cheap oil due to do geological characteristics and the size of its reserves. Russian producers, however, command low operating costs and face progressive taxes. Also, Russia’s floating exchange rate cushions the adverse effects of dollar-based commodity trades.

The situation changes when the importance of oil revenues for the national budget is taken into account. Riyadh’s expected fiscal break-even price is around $66. This means that the Saudi’s have been using funds from their sovereign wealth fund most of last year to keep the country running. Russia, on the other hand, has a fiscal break-even price of $30-$40 which is considerably lower.

According to Ronald Smith, a Moscow-based analyst at BCS GM, “as long as oil is $45/bl or below, it is pretty easy to get everyone in OPEC+ on the same…

Read More: Has This Record-Breaking Oil Rally Gone Too Far? | OilPrice.com

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