The breakdown of the OPEC+ alliance and the ensuing Saudi flooding of the markets could drive oil down to $20 a barrel this summer.
“$20 oil in 2020 is coming. Huge geopolitical implications,” tweeted Ali Khedery, who previously served as ExxonMobil’s senior advisor for the Middle East.
While this would mean a “timely stimulus” for global consumers, it will be “catastrophic for failed / failing petro-kleptocracies Iraq, Iran, etc,” he said.
The crash “may prove [an] existential 1-2 punch when paired with Covid-19.”
Goldman Sachs also warned that quarters three and four could see “possible dips” in Brent crude to near-$20 per barrel.
“We believe the OPEC and Russia oil price war unequivocally started this weekend when Saudi Arabia aggressively cut the relative price at which it sells its crude by the most in at least 20 years,” Damien Courvalin wrote in a note to clients.
“This completely changes the outlook for the oil and gas markets, in our view, and brings back the playbook of the New Oil Order, with low cost producers increasing supply from their spare capacity to force higher cost producers to reduce output,” he added.
Saudi Aramco over the weekend alerted buyers it would offer discounts of $4-8 per barrel, with the biggest deals reserved for clients in the United States, the monarchy-aligned Arab News reported.
As of publication on Monday, crude had tanked to $32 after briefly dropping below $30, down from $45 at the close of business Friday.
The price war came after Riyadh and Moscow failed to reach an agreement on production at a Friday OPEC+ meeting in Vienna.
The cartel’s current cuts are set to expire at the end of March. While OPEC kingpin Saudi Arabia was pushing for further cuts to production amid a drop in global demand, the Russians – in competition with US shale extractors – were opposed.
“It seems going after the shale producers is a policy of the Russians, and the policy of the Saudis is to reduce prices at any cost,” said John Sfakianakis, a Gulf expert for Cambridge University who has been based in Saudi Arabia for a decade and a half.
“With oil prices low, the shale producers could potentially be taken out of business, which could decrease US supply but it will take some time. So this is not going to be a one- or two-month play,” he told Asia Times.
But while the Saudis have the world’s lowest extraction cost, it is generally accepted that Riyadh must maintain prices in the $60 range in order to fund its budget.
“Because Saudi Arabia is a low-cost producer, it can sustain [a price war], the argument goes,” said Sfakianakis. But when the budget needs of an oil-based economy are taken into consideration, that low-cost argument goes out the window, he says.
“Saudi Arabia cannot afford oil prices to be at $30 a barrel. It will create a huge fiscal hole. That will put the macroeconomic well being of the economy at risk. And with oil at $20 over a long period of time is bad news for the economy,” he said.
Aramco shares tumble
Russian President Vladimir Putin appears to have taken a hard line, having chalked up the Saudi emphasis on keeping prices up to the crown prince’s pet project, the international initial public offering for Aramco.
“Russia also wants to push through a change of its own: fiddling with OPEC’s accounting rules for how gas contributes to the oil quotas — a move which could enable Russia to actually increase its oil production under the terms of the current agreement,” the Moscow Times said.
The paper notes that while Riyadh has been an enthusiastic leader in cuts, Moscow has “routinely surpassed its production quota.”
Russia’s economy grew only 0.5% in the first quarter of the year, and voices from the Ministry of Economy to state oil giant Rosneft have critiqued the production cuts deal as stunting investment in the energy sector.
In the run-up to Vienna, “Rosneft PJSC, which pumps almost half of Russia’s daily production, warned there will be a postponement of some projects for a few months ‘as a minimum’ amid uncertainty over the OPEC+ deal,” the Moscow Times reported.
It remains to be seen whether the Saudis and Russians reconvene and manage to reach a diplomatic solution after parting ways in Vienna.
While Saudi Arabia is cushioned in the short-term by its massive reserves and low-cost of extraction, Russia has its National Wealth Fund, which AFP reports stood at $150 billion, or 9.2% of GDP, as of March 1.
The impact of the coronavirus also remains a wild card and key factor that will determine whether and how global demand bounces back.
“We can’t rule out an OPEC+ deal in coming months,” said Courvalin of Goldman Sachs. But he expects this will not happen.
The OPEC+ format “was inherently imbalanced and its production cuts economically unfounded,” he writes. “As such, we base-case for now that no such deal occurs, with any response only likely at sharply lower prices.”
Both sides, along with the rest of the world, could find themselves burned, however.
The Russian ruble tumbled Monday to a four-year low, trading at 75 to the US dollar, while Saudi Aramco (listed on the Tadawul just three months ago) saw its shares plummet by 10%, the maximum allowed.
– With reporting by AT Financial Editor Umesh Desai