London: Three months after Saudi Arabia made clear it was going to let oil prices keep tumbling, the strategy is showing signs of working. US drillers are idling rigs at a record pace, gutting investment plans and laying off thousands of workers.
Those steps highlight how the Saudi-led Oganisation of the Petroleum Exporting Countries (Opec) decision on November 27 to maintain output levels and protect its market share is having the desired effect — pushing prices down so far that they threaten to curb output in the US and other non-Opec countries. Saudi Arabia, the most powerful member of the Opec, will maintain that tack when the group next meets in June, according to some of the world’s biggest banks.
“Opec giving up on trying to control the price is working,” Francisco Blanch, head of commodities research at Bank of America Corp. in New York said. “It is having the effect that we would expect, which is a decline in investment and ultimately supply, and somewhat higher demand. We think this change is for good.”
The number of rigs drilling for oil in the US dropped by 37 last week to 1,019, the fewest since July 2011, data from Baker Hughes Inc. showed on February 20. Since December 5, a total of 556 have been taken out of service. Oil explorers including Royal Dutch Shell and Chevron have announced spending cuts of almost $50 billion (Dh183 billion) since November 1.
Transocean, the world’s largest offshore driller, had its credit rating cut to junk on February 25 by Moody’s Investor Service on concern the company will increase debt levels while the drilling market deteriorates. It has about $9 billion of borrowings.
Oil has rebounded 10 per cent in New York since January 29, following a drop of more than 50 per cent from June, in part because of the decline in drilling, which signalled supply growth will slow. Lower prices also spurred demand from bargain hunters, putting European benchmark Brent crude on track for its first monthly gain since June.
Demand is growing and markets are “calm,” Saudi Arabian Oil Minister Ali Al Naimi said on February 25 in the Red Sea city of Jazan in the nation’s southwest.
US oil production will cease its month-on-month growth in April because of the drop in the rig count, Marios Maratheftis, the Dubai-based global head of research for Standard Chartered Plc, said.
The US Energy Information Administration (EIA) reduced its 2015 US crude production forecast to 9.3 million barrels a day in February from 9.42 million in November. The EIA projects output will fall in the third quarter for the first time in four years.
“Opec’s long-game strategy is on track,” Harry Tchilinguirian, head of commodity markets strategy at BNP Paribas in London, said. “It’s suffering short-term financial pain for long-term gain.”
There is a cost to Opec, of course.
Oil’s plunge will reduce the group’s revenue by about 37 per cent this year, according to the EIA. Export revenues for 11 of Opec’s 12 members, excluding Iran, will shrink to $446 billion in 2015 from $703 billion in 2014, it estimates.
Saudi Arabia’s government said on December 25 that it expects a budget deficit in 2015 of SR145 billion (Dh142 billion), up from SR54 billion in 2014.
The Saudi strategy has been criticised by Venezuela, which the International Monetary Fund (IMF) estimates will suffer an economic contraction of 7 per cent this year, and Iran, which the IMF says will be deprived of $48 billion of revenues over two years. The Nigerian oil minister and current Opec president, Diezani Alison-Madueke, said she may convene an emergency meeting of the group.
There’s no plan for such a gathering, according to a delegate who asked not to be named. Opec’s financially vulnerable members have little sway over policy because they’re unwilling to cut production, leaving decision-making power with Saudi Arabia, according to Mike Wittner, head of oil markets research at Societe Generale in New York.
Even having its own way, Saudi Arabia isn’t guaranteed success, according to Barclays. Global markets remain oversupplied, prices haven’t fallen enough to press Opec’s rivals into cutting sufficiently and increasingly efficient shale producers could restore output, said Miswin Mahesh, an analyst at Barclays in London.
“It’s still a very hard road,” said Mahesh. “We haven’t really seen an outright chunk of US shale or any other high-cost production falling.”
On the one hand, the US pumped 9.29 million barrels a day in the week ended February 20, the most in three decades, according to the EIA. On the other hand, the International Energy Agency (IEA), a Paris-based adviser on energy policy to 29 developed nations, boosted its estimate of the world’s dependence on Opec, citing lower forecasts for other nations. Opec will need to provide 600,000 barrels a day more in 2019 than the IEA predicted in its previous long-term outlook.
“If I’m sitting in Saudi Arabia, I’d say it looks like the plan is on its way to working,” Wittner said. “It does need to be reflected in real supply. But all the signs are pointing in the right direction.”
