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The Big Freeze
OPEC Can’t Rebalance the Oil Market, but Shale Might

Three days away from the big freeze meeting in Doha and we’re still hearing plenty of conflicting analysis on what kind of impact a deal—if one can be reached—might have on cutting down on the current glut of crude. The latest analysis comes to us from the International Energy Agency, which as the FT reports doesn’t see the freeze strategy producing much in the way of an oil price rebound:

[A]nalysts say the proposed deal is more about influencing market psychology than removing barrels from a heavily oversupplied market, a point taken up by the International Energy Agency in its influential oil market report.

“If there is to be a production freeze, rather than a cut, the impact on physical oil supplies will be limited,” said the IEA on Thursday, noting Saudi Arabia and Russia were already producing at or near record rates.

This is an important point, but it isn’t a new one. The one option that could really set off a significant price rebound would be an agreement to actually cut production, but that won’t be on the table in Qatar on Sunday. Saudi Arabia’s oil minister Ali al-Naimi has already said as much, and an OPEC delegate confirmed that sentiment in a recent interview with Reuters, admitting that “[m]aybe when the Iranians arrive at their previous production level…then OPEC will talk about a cut. Not before that.”

But perhaps the market can do for itself what this petrostate coalition can’t: namely rebalance supply with demand. As Bloomberg reports, that same IEA outlook that downplayed the importance of the freeze also predicted that non-OPEC producers (read: American shale firms) would be forced by falling profits to reign in investments and, therefore, output:

The world surplus will diminish to 200,000 barrels a day in the last six months of the year from 1.5 million in the first half, the [IEA] said in a report on Thursday. Production outside the Organization of Petroleum Exporting Countries will decline by the most since 1992 as the U.S. shale oil boom falters. The glut is also being tempered as Iran restores exports only gradually with financial barriers to sales persisting even after the lifting of international sanctions.

This is what OPEC has been waiting for since oil prices first started to slide from their $115 high in June of 2014. The cartel’s decision not to cut output in November of that year—and to again sit on its hands at every meeting since—was made based on a hope that upstart U.S. shale producers would be unable to keep the boom going as prices fell below profitable levels. So far the fracking industry has hacked away at its margins and employed a huge variety of innovative new techniques to keep production going in the bearish market, and instead of falling off a cliff as OPEC wanted, American output has merely tapered off.

The IEA seems to think shale’s sleeves are all out of aces at this point, and so we might finally see the global glut erased later this year. But remember: if that happens, prices will go up and make a number of recently shuttered shale operations profitable once again. And besides, that’s a big if—shale has proved its doubters wrong these last 22 months, and in the process thoroughly demonstrated that you bet against American innovation at your own risk.

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