Saudis Cut More than Commitment, Lifts Prices

Oil prices rallied yesterday following the EIA weekly data and are up further today.  Despite the rise in US inventories (4.1 mln barrels) more than four times greater than expected, participants focused on other details.  In particular, the stocks in Cushing fell by almost 580k barrels, while the market had been looking for an increase of around the same magnitude.  Also, the 17.4 mln barrel demand by refineries was the most in nearly 30 years.  

The bullish case for oil was predicated on rising demand, OPEC cuts and a natural decline in output in some countries, like Mexico.  China's economy appears to be stabilizing (with a continued robust increase in credit expansion.  Europe growth appears to have accelerated in Q4.  Earlier today, EMU reported industrial output jumped 1.5% in November, more than twice what was expected.  Even if the output was flat in December, the industrial output is set to expand in Q4 by the most since Q4 2010.   Japan's November industrial output rose 1.5%, the most in five months.  India's output surged 5.7% year-over-year in November after contracting 1.8% year-over-year in October.  

What has captured the attention of the markets today are the reports indicating that Saudi Arabia (and Kuwait) have cut output more than they were committed to delivering.  The Saudi oil minister announced that output has fallen below 10 mln barrels for the first time in almost two years.  Kuwait also reports that its output is a little less than it committed to as well.

At least for the moment, this addresses a nagging concern of many market participants that OPEC's adherence to their agreements is often questionable.  Of course, the risk of defections from the agreement increase as the price of oil increases.  Also, the participation of non-OPEC countries, especially Russia, has yet to be seen.   At the same time, US output is increasing.  At 8.95 mln barrels a day, US output is the highest since last April.  US producers have added about 100 new rigs since the end of Q3.  Recall too that in 2015 and early 2016 some well were drilled, but then capped as if the producer was storing the oil in the ground.  

The February light sweet oil futures contract set a low set on Tuesday and Wednesday (~$50.70) that met a 50% retracement objective of the rally since the OPEC agreement.  It also matches the low from December 8.  Prices have bounced smartly.  However, the $53.50 area, which is being tested, needs to be overcome to suggest another run at $55.  

Disclaimer