The major oil producers are to meet on 17 Apr in Doha, Qatar. We believe that it is more likely than not that some sort of agreement is to be announced, providing further support to oil prices. The agreement comes at a time when shale oil producers’ retrenchments are severe enough that a rapid price response may now be difficult. However, a sustained oil price of USD45/bbl and above could entice such producers to come back on line. The freeze, should it happen, could put on hold 2.4mbpd of future OPEC production. This agreement is significant enough to be meaningful.

An agreement of sorts is more likely than not. We believe that some sort of agreement would be announced at this meeting, as Iran has already been excluded from the negotiations. For other Organisation of the Petroleum Exporting Countries (OPEC) members, there is not much to lose, as most were near maximum capacity in January. At the moment, three OPEC members (Saudi Arabia, Venezuela and Qatar) plus Russia have already agreed to a production freeze. We expect the other eight members could possibly agree, as their total production capacity may not be large enough to make much impact on the oil market. The production freeze agreement should support the current positive sentiment and provide confidence in both the oil and equity markets

No agreement would be negative on the markets. The freeze, if set at January levels, would not have any major impact on the current physical oil market, as most countries were producing flat out anyway. However, if the major oil producers do not act, OPEC has spare capacity of 2.4m barrels (bbls)/day (mbpd). Excluding Iran, 2mbpd of this is Saudi Arabia’s. This spare means capacity can be reached within 90 days and sustained for an extended period of time. As such, should the freeze not happen, confidence and sentiment may turn more negative as more oil could potentially enter the already oversupplied market. This can cause another round of collapse in crude oil price.

Why such action now? We believe that the possible production freeze agreement comes at a time when shale oil producers’ retrenchments are severe enough that a rapid price response may now be difficult. The cash-strapped shale oil producers have had to cut capex and labour. It may take time to bring back this labour. Of the tens of thousands that have been laid off, many may have found jobs in other industries and may be reluctant to return. Only very few companies (eg Schlumberger) have put their skilled employees on some sort of retainer fee. These employees would be willing to come back.

Although the agreement could support oil prices, we believe that oil prices of USD45/bbl and above for a sustained period of time would most probably entice the shale oil producers to come back on line again. However, their price response may not be as rapid now. As such, we believe that crude oil prices would swing within our expected forecasted range. We forecast for crude oil price (Brent average) to be USD37.50/USD45/USD60/bbl for 2016-2018 respectively. Crude oil price average YTD 2016 is USD33.56/bbl, slightly ahead of our expectations. Maintain NEUTRAL on the oil market, and stick to fundamentally strong companies. See below for our top regional recommendations. Our previous report on this topic is 17 Feb’s Integrated Oil & Gas: The Freeze.

Our forecasts remains intact as we believe that, should oil price be above USD45 per bbl for a sustained period of time, shale oil producers may come back on line, although the price response may not be as rapid.

Our oversupply forecast does not change much with the latest updated numbers. 2016F OPEC supply is expected at 32.63mbpd, while we add on Iran’s production of 1mbpd, OPEC’s natural gas liquids (NGL) is 6.9mbpd and non-OPEC supply is 57.1mbpd. Total supply is, therefore, assumed at 97.6mbpd. 2016F demand is expected at 95.6mbpd, or a 1.2mbpd YoY additional demand, where we believe there is possible downward risk.

US crude oil production is now declining. The lower and the longer crude oil prices are, the less attractive the economics of the shale oil plays would be. In our opinion, the supply-led response objective should be to keep the oil price high, but not so high that the shale oil producers would come back on line. That price point, we believe, is around USD45/bbl and above. However, due to severe retrenchments by the shale oil producers, it is possible that a rapid price response would now be difficult.

Source: RHB Research - 22 Mar 2016