Good News For OPEC, International Rigs Not Yet Responding To Brent’s Recent Move To High $60s

Jan 9, 2018


There was good news for OPEC yesterday with the Baker Hughes worldwide rig counts for Dec 2017 showing that rig counts, outside of the US, haven’t really increased with the recent strength in Brent now in the high $60s.  Our blog may only say “OPEC” cuts, but we are referring to the collective OPEC/non-OPEC (ie. including Russia) cuts.   US shale is the primary focus/concern for OPEC and they probably just want US shale growth to be under 1 million b/d in 2018.  But the focus will also include rest of world excluding the US and OPEC/non-OPEC cut group (ROW) and the last thing OPEC wants is to see ROW have big rig increases and add oil supply growth before Dec 31, 2018, when the OPEC cuts are scheduled to end.  Any significant increases in ROW oil supply could impact the math for oil markets rebalancing and make the exit from the cuts more challenging, especially since global oil demand is always seasonally lower in Q1 of every year.  But for now, no real increase in ROW rigs means that OPEC remains on track to keep Brent in the $60s if it can maintain discipline on its cuts.

OPEC’s focus is rightly on US shale.   This focus was reinforced today, when Shana (the news agency for Iran’s oil ministry) reported on comments made by Iran’s oil minister Zangeneh.   Shana wrote [LINK]  “OPEC Members not keen on Oil Price Hikes above $60/b: Iran” “ Iranian Minister of Petroleum Bijan Zangeneh said, “Members of the Organization of the Petroleum Exporting Countries (OPEC) are not keen on increased Brent Crude prices to above 60 dollars per barrels because of shale oil.” He said the rally in oil prices in recent days is because of the OPEC and non-OPEC production cuts and partly because of the cold season.  “We are in winter, a season in which prices go up as demand for petroleum products goes up,” Zangeneh said”.  The Baker Hughes worldwide rig count noted that total worldwide rigs in Dec 2017 were 2,089 rigs, or up 317 rigs YoY from Dec 2016, but US accounted for 296 (93%) of the YoY 317 rig increase.  This is why the focus is all about the US shale, at least for the near term.

We are less concerned about a series of mega long cycle projects.  Oil markets still see the impact in 2018 of long cycle mega oil projects (ie. Fort Hills oil sands) that started under high oil prices pre 2015.  There are still mega projects that are being approved with Brent in the high $50’s and $60s, but these tend to be the top global oil projects like Exxon’s offshore Guyana oil success.  Phase 1 of the Exxon Guyana offshore development will be adding 120,000 b/d by 2020.  But to the most part, we are not worried that Brent in the high $60s will bring back a wide range of approvals of mega long cycle oil projects.  Its not just that the Brent forward curve is backwardated and is $62.65 in 2019, $60.12 in 2020, $58.89 in 2021, $58.46 in 2022, $58.35 in 2023, $58.53 in 2024 and $55.63 in 2025.  But because oil companies are well aware that the OPEC  does want to end its cuts in 2018 and that this potentially adds ~1.8 million b/d of additional oil capacity back on the market.

To date, the rig  count for the ROW short cycle conventional drilling is essentially flat for the past 3 to 6 months.  The good news for OPEC as they watch ROW oil supply growth is that the ROW rig count is essentially flat in the past 3 to 6 months.   This should mean that any oil supply response should be modest at best.  To date, there hasn’t been any real pickup in global rig counts outside the US.  There were only 6 countries that have had rig counts increase by more than 5 rigs in the past year. As we look forward to 2018 and Brent in the high $60s, we believe the best indicator for growth in rigs will be those that increased the most over the past year ie counties that responded to Brent over $50 to $55.   We see countries like Colombia, Indonesia and Argentina continuing to increase rig counts with Brent in the high $60s and to see small increases in oil production.  China’s increasing imports of oil and natural gas will continue to drive its goal to increase domestic supply and hopefully see modest increases in oil supply.  Iraq is the biggest wildcard for future production increases once OPEC cuts end as it works to increase capacity for 2019 and 2020 oil production.  We created the below table that lists the individual countries that had rig increases or decreases of 5 or more rigs in the past year.

Baker Hughes Rig Count By Country (# Of Rigs)

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Source: Baker Hughes

The lack of ROW rig growth is because the confidence for Brent to be likely $60 or higher didn’t really set in until late Oct.  The lack of ROW overall response to date from high oil prices should be expected.   As a general rule, it isn’t as quick to ramp up international rigs as quickly as happens in the US and the confidence that Brent was likely >$60 really didn’t lock in until the end of Oct after Putin and the Saudi Crown Prince noted they were onside for the cuts to extend thru 2018.  On Oct 4, Putin came out with his comments supporting the 9-month extension and WTI was $50 and Brent was $56, and the prices went up about $4 over the next couple weeks.   Then on Oct 29, Saudi Crown Prince came out with his support for the 9-month extension providing the second leg to Brent going over $60.  This means the test is coming up in Q1/Q2 to see how ROW responds to Brent in the high $60s.  But to date, not enough of a ROW rig ramp up to look to upset OPEC’s ability to manage Brent in the $60s with continued discipline in its cuts.

Brent And WTI Price (US$/b)

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Source: Bloomberg, Stream Asset Financial

OPEC will be watching to see if high Brent oil prices lead to greater ROW oil supply by year end 2018 ie. when its planned cuts end.  The relatively flat ROW rig count isn’t pointing to any big supply rush in H1/18, but OPEC will be watching to see the rig count in H1/18 with Brent in the high $60s.  The last thing OPEC wants is for a rush of oil supply to come onstream by year end 2018, when their cuts are scheduled to end.  Especially since global oil demand is always seasonally lower in Q1 of every year.   We posted our Dec 5 blog “The Only Logical Time For OPEC To Start To Unwind The Cuts Is In July To Avoid Recreating A Surplus Problem” [LINK] because of the supply/demand challenges for OPEC if it ends its cuts on Dec 31, 2018.   The fact that demand is always seasonally lower in Q1 of each year is why it seems to us to be the wrong time for the ~1.8 million b/d of potential cut volumes to come back on the market.  The relatively flat rig count to date and likely no significant oil supply adds in H1/18 is another reason supporting the logic for the right time for OPEC to start to exit its cuts is July.

The flat ROW rig count should not upset OPEC’s ability to keep Brent above $60.  The focus or objective of the OPEC cuts is likely changing.  Its no longer managing Brent oil price to get up to $60, but making sure oil prices don’t run away too high and that production additions for year end 2018  outside of the US are modest at best.  OPEC does not want to see ROW add too much supply before year end 2018 ie. when the OPEC cuts are scheduled to end.  We believe OPEC is resigned to the fact that US shale will grow in 2018 but probably want to keep that growth under 1 million b/d.  Strong US oil growth means OPEC has to make sure ROW oil supply growth is modest at best.  Its why the international rig count is important to watch and, at least so far, it has been relatively flat.  And that OPEC remains on track to keep strong Brent oil prices if they can maintain the discipline to the cuts.  Good news for OPEC yesterday with ROW rig counts not yet responding to Brent in the high $60s.