There’s no “I” in “team.” Nor is there, as it turns out, an “Iran.” News hit on Tuesday that Russia and Saudi Arabia, two of the world’s largest oil producers, were spearheading an Organization of Petroleum Exporting Countries (OPEC) effort to freeze global oil production and stabilize prices for crude oil, which have tumbled about 70% since their peak in late 2014.
Unfortunately for oil producers, not everyone is on board. Iran, a nation that has only recently gotten a chance to start exporting oil after the end of the sanctions placed on it for pursuing its nuclear program, was not so keen on seeing their production level frozen.
The drama has had markets roiling. Tuesday saw prices jump by as much as 7.00% before news that production would be frozen at January levels, when Russia set a record for the highest level of production since the collapse of the Soviet Union at nearly 11 million barrels a day, and that Iran may not be so amenable to the agreement, after which the rally rapidly retreated and settled into a small loss.
On Wednesday though, news that the oil ministers from Iraq, Qatar, and Venezuela were traveling to Iran to meet with Iranian oil minister Bijan Zanganeh, combined with his vocal support for an accord that would freeze production, had Brent Crude rising by nearly 7.00%. Granted, Iran made no promises about freezing its own production, but clearly their support gave commodity traders enough faith that the rest of OPEC might make a move to bolster prices, at least in the short term.
Fiscal Breakeven Points Beginning to Break
Ever since oil prices began going into freefall late in 2014, the question swirling through commodities markets has been when Saudi Arabia and OPEC would move to quell the crash. Saudi Arabia has one of the lowest break-even levels for extracting its oil in the world at just under $10, meaning it can continue to profit even with prices under $30 a barrel. In fact, a lot of market watchers speculated that the Saudi insistence on maintaining high levels of production was part of a larger effort to crush North American producers, where extraction is much more difficult and expensive. This is one theory of many, but probably the prevailing hypothesis.
However, another breakeven price has also gotten a lot of attention. Namely, what’s known as “fiscal breakeven” points, which refer to the price at which governments can maintain spending levels based on oil revenues. There, things start to look quite different, with a long period of high oil prices resulting in a number of oil-producing countries becoming reliant on prices close to $100 a barrel. Venezuela, most notably, is feeling the squeeze of low oil more than anyone else.
As such, the lower oil prices fell, and the longer the low oil environment stretched out, the harder other OPEC members felt the squeeze. With Russia’s economy in dire straits and even Saudi Arabia beginning to have to adjust its fiscal process, it appears as though the penny has finally dropped.
Oil Economy Has a Long Road to Stability
If the move by Russia and Saudi Arabia is successful at actually bolstering oil prices, it will come as a welcome relief for markets, as they continue to slide in the early going of 2016. With a number of factors weighing on growth, increasing oil prices could help shake markets out of their funk.
Normally, low oil prices might be expected to help boost economic growth elsewhere, but the dramatic slowdown of the Chinese economy appears to be putting on the squeeze from both directions, with oil producers suffering greatly, and the rest of the economy failing to see the sort of benefits one might normally expect.
However, the oil economy still has a very long way to go. For starters, a production freeze at January levels would already mean freezing Russian production at record levels, and may not make a serious dent in prices. It seems entirely possible that a production reduction would be necessary before a serious rally for oil prices is forthcoming. What’s more, if Iran refuses to toe the line and freeze production, which seems entirely possible given both their frosty relationship with Saudi Arabia and their need to jump back into exporting oil with both feet, it would put a serious dent in the potential for any organized effort to reverse the downward trend in oil prices.
Still, today’s bump in prices would seem to indicate that even this small ray of hope is more than welcome. At the very least, this could be a sign that oil prices are reaching their floor, and will at least hold steady moving forward.
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