Sector News

A $70 oil floor? Fat chance, but OPEC price plan may be first step

October 15, 2015

The safe money for oil traders is betting that Venezuela’s plan to resurrect OPEC’s old price band mechanism, attempting to set a $70 floor for the battered market, will be doomed from the start.

Saudi Arabia, the group’s de facto leader, has shown zero interest in returning to a strategy of supporting prices; big producers outside the Organization of Petroleum Exporting Countries, namely Russia, have essentially ruled out cuts. And most analysts say attempting to set a price range is futile, or that the $70 price is unsustainably high, or both.

Yet a handful of experts and observers say the proposal – articulated by former oil minister Rafael Ramirez – may be a catalyst for moving away from OPEC’s laissez faire approach to collapsing oil prices, which throttled investment, shredded budgets and left some economies, such as Venezuela’s, teetering on the brink.

Even if the idea fails to advance, it could represent the first meaningful step in months toward finding common ground that could help stabilize the oil market.

The plan, to be discussed at an October 21 meeting of technical experts in Vienna, seems simple: progressive production cuts to control prices, with a “first floor” of $70 per barrel and a later target of $100 per barrel, Ramirez explained.

His comments come after months of presidential visits and vague statements by President Nicolas Maduro, most of which has been dismissed as a desperate effort by a precarious leader with little history of petro-diplomacy.

Ramirez, by contrast, was the public face of Venezuela’s oil policy for over a decade, working closely and often with Saudi Oil Minister Ali al-Naimi – one of the only remaining OPEC ministers from the previous decade, among the group’s most cohesive periods – as oil prices raced from $20 a barrel to nearly $150 and back down again after the financial crisis.

“I think this one might have more substance,” said Paul Horsnell, head of Commodities Research from Standard Chartered, who has been writing about oil markets and OPEC for two decades.

“Signing up to a $70-$100 band doesn’t seem too difficult for anyone,” he said. “As long as there is no automatic mechanism linking the band to output, it seems a very low cost way of expressing solidarity with the aspirations of other members.”

Eight non-OPEC countries were invited: Azerbaijan, Brazil, Colombia, Kazakhstan, Norway, Mexico, Oman and Russia, according to Venezuela’s oil minister Eulogio Del Pino.

The price band formula has been used before as a way out of crisis. After the late 1990s collapse in prices to $10 a barrel, the group set a band of $22 to $28 a barrel.

It was abandoned in 2005 as soaring demand caused prices to race higher, and the group has never formally set any target or range since then.

Attempts by Venezuela in past years to make OPEC go back to the band system have failed. This year prices are lower, but big producers – including Saudi Arabia and Kuwait – are reluctant to sacrifice again their market share to revive them.

Yet there are other signs that nearly a year of depressed prices, and deep uncertainty over how long sub-$50 a barrel oil may last, is wearing thin.

Russian Energy Minister Alexander Novak met with Naimi last week in Istanbul, and has said Russia is ready to meet with OPEC and non-OPEC producers.

In a speech in Kuwait, senior Saudi energy advisor Ibrahim al-Muhanna bemoaned the lack of an “anchor” in the oil market, the absence of which fuelled volatility and depressed investment.

“This is an unnatural situation and it is difficult to see it continuing,” Muhanna said, but offered no firm ideas on what might be done to remedy the situation.

A source close to Venezuela’s OPEC delegation said it will be almost impossible to make Saudi Arabia and Russia sit at the same table to negotiate a cut given past acrimony over Moscow’s failed promises to curb output, but to start with a floor price discussion at a technical level may help toward that goal.

Many analysts said targetting a notional price without any real commitments to production constraints would be a largely meaningless gesture, but others said it could help ease a jittery market and potentially soften the stance of some in OPEC.

“Countries can use the band as a broad reference,” said Alvaro Silva, who served as OPEC’s general secretary in 2002 and 2003, when the first price band was in effect.
“It worked fine in the past to give the market a price reference and avoid large price oscillations.”

Apart from the mechanism itself, it is an open question whether producers would agree that $70 is the right goal. While several members including Iraq and Angola suggested in June that $75 to $80 a barrel was a reasonable area, core Gulf members may worry about losing too much market share at that level.

At that price, US shale oil production would likely come roaring back, according to one veteran analyst. “But set the floor $10 lower and it could work.”

Source: Energy Voice

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