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OPEC to set policy amid high prices

Edward Bell - Senior Director, Market Economics
Published Date: 04 October 2021


OPEC+ looks set to at a minimum roll over its monthly production increase of 400k b/d for November when it sets policy later today. Oil prices have moved near to their highest levels in the past five years as demand is showing strong signs of recovery in many key consuming economies and supply both from the OPEC+ alliance and other producers stays tight. Beyond spot prices, time spreads are pricing in considerable tightness with curves in both the WTI and Brent markets substantially in backwardation.

Time spreads calling for more crude

Source: Bloomberg, Emirates NBD Research

High oil prices are coming amid a storm of elevated energy costs generally: natural gas futures have risen more than 125% ytd as of early October and coal prices are near record levels. The surge in energy costs comes amid an already elevated inflation picture as supply chains for manufactured products are strained and developed market central banks issue portents of tighter monetary policy. In other words, this is an energy rally that very few economies want or can sustain.

Diplomatic pressure on OPEC+ to increase production beyond their target levels has already begun with an outreach from the Biden administration in September. Similar appeals from India in March this year fell on deaf ears when oil prices were in the USD 60-70/b range and the market was drawing down on stocks in considerable pattern. Given the track record of OPEC+ to let price spikes run their course to evaluate how long they will last, we are cautious that OPEC+ will agree to a meaningful increase in production.

Increase would be limited to larger producers

Compliance, in a way, has been too good with the terms of the OPEC+ production agreement at a time when the world is calling for more oil. Even if the producers’ alliance did agree to double its production target to 800k b/d for November and December for example, the ability to do so lies in only a handful of producers. Saudi Arabia is still running with more than 1.75m b/d of spare capacity while the UAE is producing 1.4m b/d below estimates of its output capacity. Several mid-sized producers within the core OPEC countries are producing below their target levels—both Nigeria and Angola have undershot their September output levels—while outside of OPEC output slipped across mid-sized producers in August. Any deal to increase output would come at the expense of mid- and smaller sized producers, potentially frustrating the longer-term diplomatic integrity of the OPEC+ alliance.

Mid-sized OPEC+ members missing output targets

Source: IEA, Bloomberg, Emirates NBD Research. Note: * August production levels.

Higher output levels would no doubt be a welcome development for oil consumers and financial markets more generally amid the panoply of other risks hitting the market. With inventories having drawn substantially in the last few months and come back closer to long-run average levels, at least when measured against demand, and non-OPEC+ not showing any imminent increase, higher OPEC+ volumes are unlikely to provoke a rapid sell-off much below the USD 70-80/b range in Brent futures. Investors have been adding net length to Brent and WTI futures and options since the start of September but as a share of the market don’t represent particularly excess levels. That may help to limit any rush to take profit should OPEC+ agree on higher output levels for the coming months.

Investor positioning in oil

Source: Bloomberg, Emirates NBD Research