OPEC’s production cut likely to support near-term oil prices

by Bixby Stewart, Fabrice Pellous of Invesco, 1/10/19

The Organization of the Petroleum Exporting Countries (OPEC) has saved the day — again. With the help of Russia, key global oil producers have come to an agreement that will likely minimize the oversupply fears that permeated global crude markets in recent weeks. OPEC and certain non-OPEC producers, led by Russia, have formally agreed to reduce global output by 1.2 million barrels per day, relative to October 2018 levels.¹ At Invesco Fixed Income, we believe the magnitude of this reduction as well as the cooperation displayed by key global oil producing nations are favorable developments for oil prices. Ongoing cooperation suggests a commitment and inclination to favor crude price strength and market stability over market share. We view this as a highly favorable supply-side consideration for this commodity that will likely be supportive of oil prices in the near term. Going forward, however, we expect oil prices to be range-bound and believe active management will be increasingly beneficial in navigating this market.

Oil production cut on fears of oversupply and dropping oil prices

After a day of tense meetings between OPEC producers on Dec. 6, key oil-producing nations, including Russia, arrived at a firm agreement on Dec. 7 to actively address the crude oversupply concern facing global markets. Earlier this year, markets became concerned with potential supply shortfalls ahead of the anticipated implementation of Iranian sanctions by the US. However, this quickly shifted to fears of crude oversupply as the US granted waivers, unexpectedly, to key buyers of Iranian crude following a ramp-up in production by key global producers. Ahead of (then) forthcoming Iranian sanctions, Saudi Arabian production increased a meaningful 11% year-over-year in November, and net OPEC production increased by 2% during the same timeframe.² It was this sharp supply increase that contributed to oversupply worries and global oil price pressure, with Brent Crude prices declining by more than 30% from the beginning of October through the end of November.³This eventually paved the way for Friday’s coordinated production reduction announcement.

Impact on oil prices

While potential demand risks to oil prices abound and certainly remain top-of-mind for global energy investors, we believe Friday’s decision represents a positive supply-side development and will likely be constructive for oil prices in the near term, all else being equal. OPEC will meet next in April 2019, at which point we expect the group to evaluate the effectiveness of last week’s announced production cut and analyze whether any adjustments to this cooperation agreement may be required.

Active management may be beneficial in navigating the current price environment

Tightened oil markets, cooperative OPEC actions and elevated political risk could temporarily skew near-term oil price risk to the upside. However, longer term, we expect a range-bound environment to persist, driven by a potential increase in US shale oil supply if crude prices move higher, and/or anticipated coordinated supply reductions from OPEC and other key non-OPEC producers if prices move sharply lower. Therefore, at Invesco Fixed Income, we continue to seek compelling idiosyncratic credit situations offering both downside mitigation and attractive risk-adjusted return potential, rather than relying purely on oil price movements to drive energy credit performance. In general, we believe credit selection has become more important than ever as deep fundamental credit analysis, an understanding of unique credit drivers and identification of high conviction, creditor-specific catalysts are likely to be key drivers of alpha in a volatile, yet range-bound oil price environment.

1 Source: Organization of the Petroleum Exporting Countries, “The 5th OPEC and non-OPEC Ministerial Meeting concludes”, Dec. 7, 2018.

2 Source: Bloomberg L.P., Dec. 10, 2018.

3 Source: Bloomberg L.P., Oct. 3, 2018 to Nov. 23, 2018.

Important information

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Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly based on weather, political, tax, and other regulatory and market developments.

Before investing, carefully read the prospectus and/or summary prospectus and carefully consider the investment objectives, risks, charges and expenses. For this and more complete information about the products, visit invesco.com/fundprospectus for a prospectus/summary prospectus.

This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial advisor/financial consultant before making any investment decisions. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.

OPEC’s production cut likely to support near-term oil prices

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