Front-month oil futures declined last week, slipping to $39.39 per barrel last Friday. But oil prices spiked Monday morning after reports that Saudi Arabia had promised to “cooperate with all oil producers and exporters, from inside and outside of OPEC, to preserve the stability of the market and prices.”
Some in the financial infotainment industry seized on this statement as a sign that Saudi Arabia plans to work with other OPEC members (and Russia) to reduce output and support prices.
However, this “news” story and the consequent rally in oil prices are, at best, an example of shoddy journalism and, at worst, downright irresponsible.
Last week, Oil Minister Ali al-Naimi said that Saudi Arabia is a “reliable supplier” and cooperates with OPEC and non-OPEC members to “stabilize” the market. On at least a half dozen occasions over the past six months, Ali al-Naimi has used almost identical verbiage to describe Saudi Arabia’s actions in the oil market.
In other words, the Saudis have not changed their policy toward the oil market; it’s unclear why the media suddenly seized on this statement Monday morning.
Nor is Saudi Arabia likely to waver in its commitment to maintaining market share before or after OPEC’s Dec. 4 meeting. Saudi Arabia can’t afford higher oil prices right now. Any OPEC production cut would boost oil prices in the short term, encouraging drilling activity in the US, where many shale plays become profitable when WTI rallies to more than $50 per barrel.
Saudi Arabia has seen this movie before. Between 1980 and 1985, Saudi Arabia cut its oil output by almost 70 percent in a failed effort to bolster prices; in reality, the country merely ceded market share to producers in emerging offshore plays in the North Sea, the Gulf of Mexico and elsewhere.
Ali al-Naimi has emphasized that Saudi Arabia won’t repeat the mistakes of the early 1980s.
News stories citing Venezuelan Oil Minister Eulogio Del Pino’s calls for an equilibrium price of $88 per barrel as a precursor to a change in OPEC policy are equally irresponsible—and even more ludicrous.
With an inflation rate of about 200 percent and widespread shortages of basic goods, the Venezuelan economy is in shambles.
The country’s current government, led by Socialist President Nicolas Maduro, appears to be on pace to lose the Dec. 6 election, despite a litany of dubious measures to ensure victory. These efforts include jailing opposition leaders, egregious gerrymandering and forming a fake political party with similar logos to the main opposition party to dupe voters into picking the wrong candidates.
The idea that Saudi Arabia and OPEC’s other core members—none of which have any great affection for Maduro or his predecessor, Hugo Chavez—change course because of the desperate pleas of a lame-duck government more than 7,000 miles away is comical.
Meanwhile, hedge funds have amassed a sizable aggregate reported short position in WTI futures in recent weeks, increasing their bets against oil prices by 16.25 million barrels last week. This gross short position amounts to about 154 million barrels, within range of the March 2015 high of 178 million barrels.
At these levels, the ratio of reported long positions to short bets stands at 1.78, compared with March and August lows of less than 1.6.
Hedge funds typically build short positions aggressively when supply and demand factors support weaker oil prices; previous short bets have paid off handsomely for the funds. We regard spikes in hedge funds’ bets against WTI as a contrarian signal.
To turn their paper profits into real gains, hedge funds must buy oil futures to close their trade. This flurry of buying squeezes prices lower, fueling further covering; this self-feeding cycle can result in extreme pain for investors who remain short.
Hefty short positions, thin trading volume and the OPEC meeting on Dec. 6 will drive volatility in oil prices over the next few weeks. When OPEC sticks to its current production policy, WTI prices could take another hit in the near term.
As we’ve asserted repeatedly, outlook for WTI prices over the next few months looks decidedly negative, with US crude-oil inventories exceeding their five-year average by about 30 percent and an intensive turnaround season for refiners around the corner.
Elliott and Roger on Nov. 30, 2020
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