Oil markets ahead of March OPEC+ meeting: Caution may be advisable

After the bust comes the boom. Ten months ago, oil saw its worst decline in demand in the commodity’s history. Put that against January and February of this year, when it saw the steepest-ever rally for the first two months of any calendar year.

The oil price rally over the last few months has been nothing short of stunning. West Texas Intermediate rallied from $45.28 per barrel on Dec. 2 to $62.20 per barrel Monday midday, Central European Time, and Brent from $56.35 per barrel to $65.13 per barrel over the same time period.

On the demand side, oil traders have to thank Asia for this development, where the two largest countries by population are steadily powering ahead. China’s oil consumption is back above pre-pandemic levels, and India is concerned about what rising commodity prices mean for its economic recovery.

On the supply side, OPEC+ — an alliance between OPEC and ten friendly oil-producing nations led by Russia — fueled the bull market with its historic cuts, which at slightly above 7 million barrels per day (bpd), equating to 7 percent of pre-pandemic global oil production. It was further augmented by the one-time voluntary cut of 1 million bpd for March and April by Saudi Arabia.

All of the above led to a negative demand-supply balance and an aggressive drawing down of inventories. In other words, markets are tight. Analysts and traders are warning of a tight market, which pushed prices up, as evidenced by strong backwardation.

So, where does this leave oil markets? While things might look positive for the time being, there are still dangers looming. Saudi Arabia’s Energy Minister Prince Abdul Aziz bin Salman warned that producers needed to remain vigilant — and he had a very good point.

While the global economic outlook might look good for the time being, there are still uncertainties out there, especially pertaining to fast-spreading new mutations of the COVID-19 virus and the efficacy of existing vaccines against them.

On the demand side, Europe seems to be locked in a “Groundhog Day” scenario of extended lockdowns due to the slow rollout of vaccines and the fast spread of new virus variants. All of this will obviously impact oil demand, particularly when it comes to cross-border air travel.

Similarly, the variants pose constraints on how speedily the US economy can be opened up, despite the fast rollout of vaccination programs.

The Biden administration’s $1.9 trillion relief plan passed through the House of Representatives on Sunday night and now needs to overcome the last hurdle in the Senate. While this is bound to have a positive impact on demand, rising oil prices will also bring back on stream some of the US shale oil production.

A potential supply shock does not just hail from a regrouping of the shale oil industry but also from forces within OPEC. Libya has upped its production from 84,000 bpd during the second quarter of 2020 to 1.16 million bpd in January 2021. At the same time, production and exports out of Iran and Venezuela may well increase, due to the Biden administration’s reset on foreign policy — albeit at a lower trajectory.

In other words, the Saudi energy minister had a point in highlighting the dangers of taking the recovery of the oil markets for granted. However, from the other heavyweight within OPEC+ — Russia — things might look different. Deputy Prime Minister Alexander Novak said in mid-February, when Brent was at $63 per barrel, that markets were rebalanced in his view. This may make sense for him because Russia needs a lower oil price to balance its budget than some of the Gulf Cooperation Council economies.

We can expect these differing viewpoints to be discussed during the upcoming ministerial meeting of OPEC+ on March 4. Delegates will then have to weigh whether oil markets can take incremental supplies from outside OPEC and from several OPEC member countries, due to the Biden administration’s reset on foreign policy, as well as from within the organization to the tune of 1.5 million bpd. After April, Saudi Arabia’s one-time voluntary cut will end, and OPEC+ may put another 500,000 bpd on the market, according to the schedule of tapering cuts.

The question is whether global oil markets can absorb 1.5 million bpd of extra supply, which might well be topped with additional production of the US shale space, and OPEC producers who are exempt from the cuts, namely Libya, Iran and one-time Venezuela. The answer to this question lies in how demand will develop over the next few months, which in turn depends on vaccine rollouts, highly infectious mutant strains and just how quickly the global economy will recover.

While optimism may be the order of the day, oil producers ought to remain vigilant because the current positive macroeconomic outlook remains on tentative footing, while the virus mutates are spreading fast and vaccination programs remain slow in various parts of the world — factors that may well put a damper on the global economic recovery.

• Cornelia Meyer is a Ph.D.-level economist with 30 years of experience in investment banking and industry. She is chairperson and CEO of business consultancy Meyer Resources. Twitter: @MeyerResources