Crude Realities

Lots of words, but no OPEC action even as oil soars

An oil tanker is seen off the port of Bandar Abbas, southern Iran.
Atta Kenare | AFP | Getty Images

Despite talk of output reductions, OPEC is unlikely to leave its meeting Friday with any agreement on production cuts.

Oil prices jumped Thursday on a report that Saudi Arabia was seeking a production cut next year if other producers, including non-OPEC country Russia, will agree. Reuters later reported that Iraq, Iran and Russia all opposed the idea.

Nonetheless, West Texas Intermediate crude futures on Thursday settled up more than 2.8 percent after losing 5 percent Wednesday on worries about oversupply. The dollar, which also impacts oil prices, was sharply lower Thursday after rallying Wednesday and was also a factor in the oil price move.

"There's a lot of hopefulness around potential for a deal, but it's going to end in disappointment," said John Kilduff of Again Capital.

Read MoreOPEC countries hit hardest by production cuts

OPEC's 'market share' strategy
OPEC's 'market share' strategy

The meeting, as expected, has become a showdown between Iran and other producers, particularly Saudi Arabia. Iran is preparing to quickly return 500,000 barrels of crude to the market once sanctions are lifted, after final approval of its nuclear agreement.

Iran's oil minister, Bijan Zangeneh, said his country is not discussing its production after the lifting of sanctions. "It is our right and anyone cannot limit us to do it," he reportedly said in Vienna. "And we do not expect our colleagues in OPEC to put pressure on us. ... It is not acceptable or fair," he told reporters.

Reuters reported that Iranian news agency Shana said Zangeneh asked other cartel members to make room for Iranian oil.

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As a result of a lack of OPEC agreement, analysts say oil prices could continue to head lower after Friday's meeting winds down.

"Iran has made it very clear they feel perfectly entitled to come back to market with as much oil as they can," said Chris Weafer, senior analyst and founding partner of Macro-Advisory. "They believe they're owed by OPEC because they were forced to take a million barrels out. They now want to bring as much of that back as they can. That's what I believe we're going to see very clear at OPEC."

But Saudi Arabian officials have said they would listen to members' concerns at the meeting but they also said have repeatedly said they will not cut production unless other producers also cut back. So, the prospect of no cuts and even more oil from Iran coming to the market has made the possibility of a growing glut even worse.

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"The others aren't going to make any concessions to allow that," said Weafer of Iranian oil's return. "You have an even more tense relationship between Saudi and Iran because of what's happening in Syria. So, there's even less political will to do a deal. They're determined to protect their market share, and they're not going to cut for anybody. And above all, they're in no mood to do a deal for Iran. ... This is a war over market share and they're not going to blink first."

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The Organization of the Petroleum Exporting Countries a year ago refused to cut production in the face of falling oil prices, and instead let the market determine price. As a result, the world has become even more flooded with oil, and WTI crude has dropped by more than 40 percent.

OPEC members are feeling the pinch, and some like Iran and Venezuela, want Saudi Arabia to cut back its production, currently more than 10 million barrels per day. But Saudi Arabia, the biggest oil exporter, is intent on keeping production elevated until higher-cost producers cut back, with U.S. shale producers chief among them.

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To make room for the return of Indonesia, OPEC could actually raise its 30 million barrel per day quota, which it has been surpassing.

"They have their foot on the throat of U.S. shale producers. So far, the Russians haven't responded. The Russian oil minister says they're still pumping at a post-Soviet era high of 10.87 million barrels. It's incredible. It's a market share battle for the ages," said Kilduff. Non-OPEC Russia is the world's largest oil producer currently, and the U.S. is third behind Saudi Arabia.

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While U.S. shale producers are beginning to cut back, production is still high, and stockpiles continue to build. U.S. stockpiles grew for a 10th week, and U.S. production increased slightly to 9.2 million barrels a day, according to government data reported Wednesday. But Saudi Arabia is also feeling the pain of lower prices, and it has issued debt to make up for the revenue shortfall.

"It's a game changer. They always have yielded under pressure and played the swing producer, but no more," said Fadel Gheit, energy analyst at Oppenheimer.

"In my view, they are basically trying to get everybody in line. Everybody will get their marching orders from the Saudis. Anything less than that, then their objective will not have been met and they would have squandered hundreds of millions of dollars over the last year," said Gheit. "It's the lesser of two evils. Otherwise, they are going to be run by influences from outside ... I believe they are waiting to see if Iran is really going to have an impact on the market."

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Gheit said a reinvigorated Iranian oil industry could be powerful, and new investments in technology could make it a much stronger producer.

"Iraq is not Iran. Iran is different. It has plenty of brain power and infrastructure. It is not fighting a civil war. They will be able to speed up their recovery pretty quickly. They've been in the penalty box for 35 years. Thirty-five years is a long time to catch up on technology," he said.

Iran is expected to return to the market once it gets clearance from the International Atomic Energy Agency, which holds a board meeting in mid-December. The United Nations agency said Wednesday that Iran had a coordinated nuclear weapons program until 2003 and some activities continued as late as 2009. But it said there were no credible indication of nuclear weapons activity after 2009.

"All the preliminary findings have put Iran on the path to eventually getting the sanctions lifted," said Kilduff.

Iran has been beating the drum for new investment in its energy fields. Last week, Zanganeh provided a new model for oil contracts for foreign firms, offering opportunities for $30 billion in investment in 52 fields. On Thursday, he was quoted as saying that he was spending time in Vienna meeting with company officials,

"They (Saudi Arabia) are fearful of what Iran is offering to foreign companies. They want $30 billion investment to double their oil production to 5.7 million barrels. That would keep the oil price well below $50 for another 10 years. Saudi Arabia doesn't want to take any chances. They are saying we will hold the fort until we see a clear sign of where this is going," said Gheit.

Weafer said it's not the price of oil that will determine the deals in Iran, it's the terms Iran ends up giving oil companies, who can take their time because of the low prices. Oil analysts expect Iran to slash prices to regain its market share in Europe.

"They have been offering cheap oil since the sanctions escalated anyway. They're kind of into that mindset," he said. "There are reports Saudis have been undercutting Russia in the European markets and the Iranians will need to shift their oil. ... You're now seeing a slight divergence between the official stated price of oil on the market and what you're actually able to buy it for if you're a big buyer, because the trend is down."