- On Sunday, OPEC+ producers announced cuts of 1.16 million barrels per day (bpd)
- The surprise move brings volume reduction commitments to 3.66 million bpd, or 3.7 per cent of global demand
- Current and prospective investors in the oil space may find actionable theses in six implications based on the OPEC+ cuts examined below
On Sunday, OPEC+ producers announced cuts of 1.16 million barrels per day.
The surprise move – set to begin in May until year end – brings volume reduction commitments to 3.66 million bpd, or 3.7 per cent of global demand, in an effort to support oil market stability.
Cuts include 500,000 bpd from Saudi Arabia, OPEC’s top producer, 211,000 bpd from Iraq, and an extension of a 500,000 bpd cut from Russia announced in February – after the introduction of Western price caps – until the end of 2023.
In response to the output reductions, WTI soared by over 6 per cent to US$80.28 per barrel as of 11:45 am EST, with Brent up a similar amount to US$84.67 per barrel.
The spikes come as a welcome respite for oil companies, who endured approximately 25 per cent losses in the commodity since June 2022 – which were exacerbated by recent U.S. bank failures – due to hawkish monetary policy slowing global economic production in an effort to reel inflation down to target levels.
Current and prospective investors in the oil space may find actionable theses in the following implications based on the OPEC+ cuts:
1. A growing number of analysts see US$100-per-barrel oil as a realistic possibility, which would mark a return to the robust cash flows seen in 2022 during the beginning of the Russia-Ukraine war.
2. The International Energy Agency is already forecasting a demand surge later this year, meaning the OPEC+ cuts will only make this more likely, and with it the danger of inflation’s return, favoring oil companies with established infrastructure and flexibility to cut production costs. That said, higher oil prices also act as recession proof for oil companies, affording the sector a margin of safety should economic growth contract later this year in line with the Bank of Canada’s forecast.
3. Extrapolating from the Biden administration’s view of the cuts as “unwise”, due to heightened market uncertainty and potential effects for U.S. consumers at the pump, it’s reasonable for Canadians to expect higher gas prices in the short term. At a national level, the price of gas in Canada fell from US$1.59/liter in June 2022 to US$1.11/liter in March 2023.
4. The fact that OPEC+’s cuts were kept under wraps until last weekend, and that OPEC+ ministers have given public assurances that production targets would likely remain stable for the year, brings to the forefront the organization’s preference for the unknown unknown, a leverage mechanism enhancing current volatility in the market for potential short-term gain. Last October’s output cut of 2 million bpd from November until year end arose under similarly surreptitious circumstances.
5. Depending on oil demand over the next few months, the output cuts may cause global stockpiles to grow, leading to downward pressure on prices, or decrease, leading to further price gains. Stockpiles have been on a decline, with U.S. inventories shedding more than 20 million barrels over the last two weeks, and global onshore inventories down in seven of the last nine weeks, according to Vortexa. Conversely, global onshore crude inventories are up roughly 140 million barrels YoY as of April, according to Kayrros.
6. While OPEC+ succeeded in raising today’s oil prices with its unexpected decision, it remains a viable possibility that corporate earnings are already in too deep of a decline trend for that to matter, with over 68 per cent of S&P 500 companies forecasting that they’ll miss earnings guidance, compared to consensus estimates, in the coming quarter (Bloomberg, Rosenberg Research). This is higher than the five-year average of 59 per cent and 10-year average of 66 per cent, according to FactSet, and follows the reduction of 2023 S&P 500 EPS estimates to US$220 from US$250 at the peak and US$227 at the end of 2022.
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