Coronation Economic Note: USD80 per Barrel - Relatively Healthy

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Wednesday, October 06, 2021 / 08:05 PM / Coronation Merchant Bank / Header Image Credit: Business Standard


Last week, Brent Oil briefly hit USD80/b rising by 43% when compared with USD55.9/b recorded at end-Jan 2021. This is also the highest level since October '18. Oil prices have been rising as a result of supply disruptions and recovering demand due to the opening of economies, vaccination rollouts. Recently, global oil supply has taken a hit from hurricanes Ida and Nicholas passing through the Gulf of Mexico and damaging U.S oil infrastructure. This has contributed to the uptick in oil prices.


The decline in oil prices in 2020 can be largely attributed to the Saudi Arabia and Russia oil price war as well as the economic downturn triggered by the covid-19 pandemic. The pandemic had a severe impact on the global economy. It led to a persistent decline in international oil prices due to the global halt of major production and manufacturing, leading to a decline in demand for oil and a supply glut. Oil prices reached a five-year low of USD21.4/b in 24 April '20.


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According to the Organisation of the Petroleum Exporting Countries and its allies (OPEC+), global oil demand growth in 2021 is unchanged from its assessment in August '21. However, the increased risk of covid-19 cases associated with the Delta variant have affected oil demand prospects, resulting in downward adjustments to Q4 '21 estimates. Global oil demand in 2021 is estimated to average 96.7mbpd compared with the average threshold of 100mbpd. In September, non-OPEC liquids (i.e. petroleum products) supply growth in 2021 was revised down by 0.17mbpd. The revisions are mainly due to outages in North America from a fire on Mexico's offshore platform and the disruptions caused by Hurricane Ida.


Nigeria's bonny light crude oil price increased steadily from an average of USD42.1/b in 2020 to USD67.6/b at end-Sep 2021. We note that the oil economy accounted for 7.4% of the country's real GDP in Q2 '21, compared to 9.3% in Q1. Oil production has recorded declines of -25% y/y and -6.1%m/m to 1.24mbpd (excluding condensates) in August '21 compared with the corresponding period in 2020. Although Nigeria has the capacity to produce 2.5mbpd, average oil production ytd is c.1.35mbpd (excluding 300,000bpd of condensates). This is in compliance with the OPEC+ production quota and below the 1.86mbpd benchmark in the 2021 national budget.


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There are several reasons for the suboptimal oil production level in Nigeria. The oil sector is faced with operational issues stemming from poor pipeline networks due to the country's fragile infrastructure. We note that, over 500 vandalized oil assets were recorded between April '20 to April '21, significantly stunting production output. Furthermore, based on our estimate Nigeria's average oil production ytd is 1.35mbpd compared with the current OPEC production quota of 1.6mbpd. Other reasons for suboptimal oil production include the low level of investments into the sector, operational constraints, lack of regulatory reforms, insecurity threats and social unrests in the oil-producing regions.


Ironically, rising oil prices might be a significant problem for Nigeria due to rising costs of the settlement of fuel subsidy receipts. According to the NNPC, to ensure continuous premium motor spirit (PMS) supply and effective distribution across the country, it has made deductions from its contributions to the federation accounts allocation committee (FAAC) in recent months. These deductions include N170.4bn in August, N114.3bn in July, and c. N126bn in June from its FAAC remittance. Over the past nine months, the NNPC contributed N349.3bn to FAAC.


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Going forward, the global oil price outlook remains uncertain. However, the U.S. supply constraints are likely to continue to support oil prices, as Ida-related outages could affect U.S. supply till end-2021. Oil price is likely to remain well above USD60/b till end-2021. In consultation with the NNPC and other stakeholders, the budget office of the federation proposed a benchmark oil price of USD57/b for 2022. The underlying market fundamentals, global economic outlook and market sentiments were considered when computing this oil price benchmark.


The OPEC+ supply target for this year is yet to be achieved, some of its members including Nigeria still find it difficult to meet their oil production quotas. There is a need for Nigeria to tackle the current technical and operational challenges to boost production levels. On a brighter note, the recently passed Petroleum Industry Act (PIA) is likely to assist with providing a leg-up for the industry.


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