Oil Prices: The Saudi Chess Game

Oil & Gas
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Saturday, October 13, 2018 /08:52PM / FDC


Early this year, with its sights set on a $2 trillion (trn) valuation for its state oil company, Saudi ARAMCO, ahead of a planned initial public offering (IPO), Saudi Arabia was doing all it could to push oil prices to $100 per barrel (pb). Oil prices were rising faster than anyone anticipated. The US announced a return of sanctions on Iran – including its oil exports – beginning in November. The anticipated shortfall from a removal of 1.4 million barrels per day (mbpd) of Iranian oil from the market put even more upward pressure on oil prices. Compliance levels to the pact between the Organization of the Petroleum Exporting Countries (OPEC) and non-OPEC oil producers to curb output exceeded 100%. Venezuela’s production continued to plunge by around 40,000bpd monthly while production shut-ins in Libya and Nigeria persisted.


The coalition’s objective of oil market re -balancing was looking increasingly like “mission accomplished”, to the surprise of naysayers and skeptics, as oil hit $80pb in May for the first time since the end of 2014.  For the Saudis, the world’s largest IPO ($100bn) was seemingly in the cards as there seemed to be no stopping the oil surge. Fast-rising prices were creating unhappy customers in large oil-importing nations across the globe. This was until US President Donald Trump apparently had enough. With his sights seemingly set on the US mid-term elections in November, and the damage high gasoline prices could do, President Trump went on twitter and berated OPEC for keeping gas prices “artificially high”.

Between a rock and a hard place

This was enough to nudge the OPEC/nonOPEC coalition into a re-think. In June, they agreed to ease compliance rates and raise output by 1mbpd. The Saudis, in response to Trump’s vocal expression of displeasure at OPEC, led the move. They have been fervent supporters of Trump’s policy towards Iran while the SaudiUS diplomatic alliance has strengthened under Trump.

The Saudi ARAMCO IPO has since been called off but that is not the only reason they needed high oil prices. Achieving widely advertised economic reforms under its Vision 2030 program also requires that oil prices stay high. The dilemma the Saudis are currently confronted with is managing the oil market in a way that balances its fiscal needs with its need to strengthen diplomatic ties with the US. The Saudis appear to want prices high – between the $70pb-$80pb band – but not high enough to get on Trump’s nerves and threaten the increasingly cordial ties with the US Administration under President Trump. 

But for how long?

Lower gasoline prices ahead of the mid-term elections scheduled for November 6th appear to be on Trump’s agenda. So, does this agenda change after the mid-terms? Do Saudi Arabia and OPEC automatically have the go-ahead to return to their initial strategy of limiting output to achieve a more desirable price level? Will it no longer bother Trump if OPEC makes gas prices “artificially high”? These are just a few of the questions being asked by analysts. As sanctions on Iran take effect, offsetting the reduction in global oil supply will require action on the part of the OPEC/non-OPEC coalition if $70-80pb prices are to be maintained. Given that some countries are unable to pump more, Saudi’s spare capacity is likely to come in to play – about 1.7mbpd.1 This is in addition to the sale of 11 million barrels of oil from the Strategic Petroleum Reserve in November, already authorized by Trump. 

Intent from the on-set

Without jettisoning its objective, the OPEC/non-OPEC coalition recognizes the possible negative impact of higher prices on demand. They have boosted production to ease concerns about high prices and expected losses from Iran and Venezuela. The Saudi’s have specifically targeted increased exports to the US – the world’s most transparent market – which reports crude oil imports and inventory levels weekly. This move is strategic as the reports typically have a significant influence on the price of oil and investor sentiment.

Data from the Energy information Administration (EIA) showed that US oil imports from Saudi Arabia surpassed 1mbpd2  for the first time since June 2017. This is after cutting crude shipments to the US down to a 30-year-low when they were neck-deep in their quest for oil market rebalancing. As OPEC’s leader and largest producer, their intention was to have reports of their reduction in exports to the US impact positively on oil prices and investment sentiment – which it did.

By the end of October 2017, the 4-week average of Saudi Arabia’s exports to the US had fallen to 506,000bpd – the lowest level since late 1987. This is roughly half of the four-week average of 1.009mbpd for the last week of August this year. The Saudi-controlled Motiva refinery – the largest in the US, with a 600,000bpd capacity – has begun to increase imports of Saudi oil again after cutting down on them last year when more Iraqi oil was imported in the past year.3 US oil imports from Saudi Arabia in September and October of 2018 are poised to reach the highest two -month level since February and March 2017 – estimated at 41.5 million barrels of oil.

The End Game

The Saudis intend to regain market share and quell bullish oil market sentiment – at least for now. After the US mid-term elections in November, they could decide to not touch their spare capacity and watch market dynamics play out. Iranian exports going offline could mean oil prices rising to somewhere around $90pb. That may dent demand, but it is a game the Saudis are more than willing to play unless Trump wades in.

Proshare Nigeria Pvt. Ltd.

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