Oil climbed out of the basement in January, when it was below $30 (U.S.) a barrel, and began a slow, lurching walk just past $50. On Monday, it went into a sprint, rising more than 3 per cent at one point, taking it above $53, its highest level of the year. It may go higher if the Saudi Arabian oil minister gets his way.
He may not get his way.
At the World Energy Congress in Istanbul, Khalid al-Falih said it was not "unthinkable" that crude could reach $60 by the end of the year. It is theoretically possible but getting there would not only require OPEC's unruly member states to make good on their pledges to reduce the cartel's output, but for Russia, the world's top oil exporter, to reduce its own output or at least freeze it (Russia is not an OPEC member).
Russia signalled on Monday that it was willing to play OPEC's game. Making an appearance in Istanbul, Russian President Vladimir Putin said: "We support the recent initiative of OPEC to fix oil-production limits. We hope that, at the OPEC meeting in November, the idea will be embodied in an official agreement, giving a positive signal to investors."
Oil was climbing before Mr. Putin strode to the podium and surged right after he left it.
Oil's sharp rise actually began last month when the OPEC countries met in Algiers and agreed a tentative deal that would see production fall to somewhere between 32.5 million and 33 million barrels a day – a drop of 1 per cent to 2 per cent.
Since small cuts in oil output can translate into fairly big prices increases, oil investors became cautiously optimistic. The decision apparently marked the end of the OPEC production free-for-all, which began in November, 2014, when the Saudis launched their market-share grab. But investors knew that OPEC producers can be serial cheaters.
Cutting production even a little bit is harder than it sounds. Official production data from many OPEC countries is notoriously unreliable, to the point that OPEC itself typically relies on secondary sources to compile its data. To implement the production cut, the OPEC directorate in Vienna will have determine how much each of the 14 countries was producing, and over what period. The potential for squabbling is immense.
The opt-outs are another problem. Three OPEC members – Nigeria, Libya and Iran – are exempt from any production cuts. Each argues that it suffered nasty production disruptions because of terrorism (Nigeria), war (Libya) or sanctions (Iran) and should not have to slow the pumps when they are merely trying to rebuild their shattered oil industries.
Fair enough, but with oil prices rising, the temptation for this trio of countries, and others, to produce a bit more than their new quotas might be irresistible. Venezuela needs every dollar of oil revenue it can get to avoid a default and prevent the outright collapse of its economy.
The other big risk to OPEC's production-cut scenario is the vast American shale-oil machine, which can be turned on an off like a switch. When the Saudis two years ago decided to pursue a pump-at-will strategy, their goal was to reverse the rise of American production. It worked. Oil slumped to $27 by early January from more than $100, sending the U.S. drillers running for cover. Production fell.
The lost output could come back with a bang if oil reaches $60 or more. That's because the price fall forced drillers to crunch their costs. IHS Markit's shale-oil group estimates that the break-even price for production in the main shale basins, such as the Bakken, in North Dakota, and the Eagle Ford, in Texas, have fallen by and extraordinary $30 a barrel.
In a note published Monday, Chris Weafer, senior partner of Moscow's Macro-Advisor said that "With an average oil price of $55 per barrel, the decline of U.S. shale would be halted and much of the 500,000 barrels of daily output lost in the U.S. over the past year would start to return." He is forecasting an oil price range of $45 to $55 a barrel over the winter.
The OPEC production cut is supposed to be confirmed at OPEC's next meeting, on Nov. 30 in Vienna. Oil at $60 is possible, but production cheating and the inevitable renaissance of American shale oil if prices reach that level will act as dampers, as would any Russian refusal to cut its own output. Still, it appears the worst is over for long-suffering oil investors.