September 9, 2019 / 7:30 AM / 2 months ago

COLUMN-New Saudi energy minister faces unpalatable crude market choices: Russell

(The opinions expressed here are those of the author, a columnist for Reuters.)

By Clyde Russell

SINGAPORE, Sept 9 (Reuters) - Saudi Arabia’s new Energy Minister Prince Abdulaziz bin Salman faces a series of fairly bleak options as the world’s largest exporter of crude oil tries to engineer higher prices amid a faltering global economy beset with geopolitical risks.

So far the word from the Saudis is that the appointment of one of the king’s sons doesn’t imply a reset of the current policies being pursued.

This means that, for now at least, the Saudis will stick to their output cutting agreement with the rest of OPEC and allied producers such as Russia.

But Salman will know as a highly experienced energy leader that the current policies aren’t exactly working, and worse than that, have very little chance of delivering the higher prices his country needs.

Saudi Arabia needs crude prices around $80 a barrel, some $20 above current levels, to balance the government budget, while higher prices will also help boost the valuation of state oil company Saudi Aramco ahead of a possible initial public offering next year.

OPEC and its allies agreed in November 2017 to restrict output in a bid to arrest falling prices, and have extended that deal, but the problem for the exporters’ club is that their efforts have largely been in vain.

While crude prices did gain in the months after the initial action by OPEC and its allies, they only briefly managed to top $80 a barrel in October last year, plunged down to just above $50 by the end of 2018 before recovering to around $75, before meandering to the current level of $62.08 for benchmark Brent futures.

If the aim of the Saudis and the other producers restricting output was to drive prices to a sustainable level around $80, they have failed.

And the chances that they can succeed look slight for the short- to medium-term, especially since higher prices merely act to incentivise other producers outside the agreement, notably the United States, Canada and Brazil, to ramp up their output.

Part of the problem for OPEC and its allies is that producers in North America have been successful in driving down the cost of production in recent year, Chris Midgley, head of analytics at S&P Global Platts, told the annual Asia Pacific Petroleum Conference (APPEC) in Singapore on Monday.

This means that where some U.S. shale and Canadian oil sands producers used to need prices above $70 a barrel to incentivise new production, they can now bring new crude to the market at much lower prices.

In some ways, this serves to cap just how high crude oil can rise in the current demand situation, and while an exact level is hard to pin down, the price action in Brent over the past two years suggests that prices above $70 will provoke a fairly rapid supply response.

SAUDI’S ROCK AND HARD PLACE

This places the Saudis in the unenviable position of having to cut more and more output and surrender market share in order to keep prices buoyant, but failing to raise them as high as they would desire.

The Saudis probably aren’t yet at the point where they may once again try to chase volume and say to hell with the price level, but the calculations must start be being made.

Saudi Arabia’s seaborne exports of crude have been below 7 million barrels per day (bpd) since February this year, and were at 6.58 million bpd in July, according to Refinitiv Oil Research.

In recent years, the most the Saudis have exported by tanker is about 7.6 million bpd, implying that they have at least 1 million bpd of production they could add into global markets at fairly short notice.

Selling 7.5 million bpd at $50 a barrel delivers only slightly less revenue than selling 6.5 million bpd at $60.

Of course, there is no guarantee that crude prices would hold around $50 a barrel if the Saudis raised exports, as presumably other producers in the current output deal would also feel they could ramp up their shipments too.

One of the buzzwords at this year’s APPEC, the oil and gas industry’s largest Asian event, was “uncertainty,” with several speakers focusing on the impact of geopolitical tensions involving U.S. sanctions on Iran and Venezuela, the trade dispute between the United States and China and even the ongoing imbroglio over Britain’s exit from the European Union.

These are events largely beyond the control of the new Saudi energy minister, but it seems that for now the risks to global growth from the trade dispute outweigh the risks to oil supply from lower shipments from Iran and Venezuela.

He will also have to try and manage the complex web of relations between the world’s dominant three oil producers, his own country, the United States and Russia, as well as how they interact with the world’s first-and third-biggest crude importers, China and India.

It’s for this reason that Salman’s current least-worst option is to try and continue to hold the output-restricting deal together, and hope that global trade tensions ease over the medium term. (Editing by Christian Schmollinger)

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