The global coalition that rescued oil prices is fraying. Saudi Arabia and the United Arab Emirates, traditional allies and stalwart members of the Organization of the Petroleum Exporting Countries, were unable to agree on production quotas last week — a strategy that has helped oil prices climb above US$75 per barrel over the past year.
OPEC and its allies, which include Russia, have been propping up oil prices since they crashed well below zero in April 2020, as the first wave of the pandemic hit the global economy.
The case for energy evolution — not energy transition
Since then, the group has assigned production quotas to each country to drain global inventories and bring the market back to equilibrium. With prices now at an elevated level, many producers are anxious to monetize their wealth, before more carbon-constraint policies crimp global oil demand.
The UAE had accepted a proposal last week from Saudi Arabia and other OPEC+ members to raise output in stages by about 2 million bpd from August to December but rejected extending remaining cuts to the end of 2022 from a current end date of April.
The UAE is upset about the baseline from which its production cuts are being calculated and wants it raised. Abu Dhabi has invested billions of dollars to increase its production capacity and says its baseline was set too low when OPEC+ originally forged their pact.
“They (the UAE) feels like they got an unfair shake in the way the deal was cut in the spring of last year, in terms of how much production that they were allowed to put out, relative to the amount of capacity that they have,” says Abhiram Rajendran, director of research at New York-based Energy intelligence. “We would agree. The UAE got the worst ratio in terms of quota-to-capacity.”
While the UAE expressed some reservations on the quotas last December, too, the markets were still quite subdued then and the country quickly fell in line.
“It was all about healing the market then. Now we are at US$75, and the UAE (is wondering), ‘why am I sitting around with a whole bunch of capacity when the demand is going up and it’s going to continue going up,’” Rajendran said.
But there may be a bigger context to the UAE move. The country, which sits on the seventh-largest reserve in the world, embarked on an ambitious US$122 billion five-year plan in 2020, which includes ramping up production capacity by a million barrels per day to 5 million bpd, apart from boosting natural gas production and the petrochemicals sector.
The UAE is also reportedly seeking to become a net-zero producer by 2050, according to a Bloomberg report, is divesting its midstream assets, and sold a US$10-billion stake in its pipelines to a consortium that included Canadian heavyweights Brookfield Asset Management and Ontario Teachers Pension Plan last year.
As well, the UAE has sold stakes in some of its high-profile oil and gas projects over the past few years to major Asian and European oil and gas companies in an effort to monetize its hydrocarbon assets — while it can.
“In a certain way, this latest friction between Saudi Arabia and the UAE is the result of the mounting debate around energy transition, which has led some producers within OPEC to question whether their interests are better served collectively in a restrictive, price-target strategy or individually in a market share strategy, which aims to monetize a country’s petroleum reserves earlier,” wrote Edward Morse, analyst at Citigroup Global Markets Inc.
The lesson for Canada may be to monetize its own oil reserves, the third-largest in the world, to fund its energy transition, rather than denying itself petrodollars during this window of opportunity.
Regional rivalry spilling over in oil markets
It’s not the first time OPEC members have clashed with each other, but it’s not often when Saudi Arabia and the UAE are on opposing sides of an argument.
Relations between the two neighbours have soured over the ill-conceived war Saudi and UAE forces fought together in Yemen. Saudi Arabia has also annoyed UAE by making plans to compete with its logistics, financial services and tourism hubs.
“This UAE-Saudi dispute appears to be about more than oil policy, with UAE seemingly intent on stepping outside Saudi Arabia’s shadow and charting its own course in global affairs,” wrote Helima Croft, head of global commodity strategy and MENA Research at Royal Bank of Canada.
The regional inter-rivalry has now spilled over to play out in global oil markets.
“Back-channel talks reportedly are continuing, but questions about UAE’s commitment to remaining in OPEC will likely grow in the coming days,” Croft wrote. “Since the launch of its Murban benchmark in March, there has been a distinct question mark over the durability of UAE’s OPEC membership and its willingness to continue idling its expensive spare capacity.”
Other analysts feel saner heads will prevail. The United States, for example, is already pushing for a “compromise solution.”
“The United States is closely monitoring the OPEC+ negotiations and their impact on the global economic recovery from the COVID-19 pandemic,” the White House spokesperson said in a statement.
“We are not a party to these talks, but Administration officials have been engaged with relevant capitals to urge a compromise solution that will allow proposed production increases to move forward.”
Meanwhile, key oil consumers such as China, India and Japan, which share close trade and investment ties with many OPEC members, will also pressure Saudi Arabia and the UAE to return to the negotiating table.
The global oil benchmark Brent traded above US$75 per barrel on Tuesday, more than double its value from the beginning of November, and some international oil executives now believe the commodity could head as high as US$100 per barrel.
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Global oil consumption will continue to outstrip supply in 2022 as the economic recovery from the pandemic boosts fuel consumption, while investment in new production is crimped by environmental concerns, Bank of America said in a report.
Oil could hit $100 a barrel next year in demand rebound, BofA says
All that means prospects of crude oil prices reaching triple figures for a sustained period seem unlikely, despite Brent crude briefly hitting a session peak on Tuesday of US$77.84 — its highest since October 2018.
“We don’t see a supply crisis, which is what US$100 means,” said Rajendran, noting that OPEC, including Iran, has nearly nine million barrels per day of crude oil spare capacity, while producers from Canada, the U.S. and other countries won’t sit on the sidelines if oil continues to edge higher.
Citibank, in fact, is urging its clients to sell the rally.
“Sooner or later OPEC+ countries should succumb to pressure to add more oil to the market at a level higher than initially planned and this is likely to result in deferred prices falling under the weight of higher production — selling the rally makes sense — but only over deferred months in our view, such as Dec. ’21,” wrote Citi’s Morse.
Source: Financial Post