OPEC+ has limited spare capacity, Russia is less relevant

OPEC+ is “a bit broken,” the chief analyst at an oil research firm said after oil prices rose despite the alliance’s announcement that supply would grow faster.

OPEC and its allies decided to take nearly 10 million barrels off the oil market in 2020 when Covid first hit and demand evaporated.

The alliance said on Thursday it would increase production by 648,000 barrels per day in July and August to end production restrictions earlier than previously agreed.

Both West Texas Intermediate crude oil futures and the international benchmark Brent crude were up more than 1% on the news.

The problem is that countries in the OPEC+ alliance have not met their targets, says Paul Sankey of Sankey Research.

“OPEC’s whole system is a bit broken right now,” he told CNBC’s Squawk Box Asia on Friday. OPEC can usually influence oil prices by controlling its production, but Sankey said the market sees supply problems persist despite the announcement.

Saudi Arabia has to make a choice – let’s go up the price while maintaining a super-emergency, super-crisis level of spare capacity?

Paul Sankey

Chief Analyst, Sankey Research

Only two or three countries in OPEC have spare capacity, he said.

Saudi Arabia, the hub of OPEC and the world’s second-largest oil producer, has about a million barrels per day of additional production capacity, but doesn’t want to use all of them, Sankey said.

“Saudi has to make a choice – let’s go up the price while maintaining a super emergency, super crisis level of spare capacity?” he asked. “Or do we add oil to the market and go to almost zero spare capacity, and then what happens if Libya goes under?”

A political deadlock in Libya has led to a partial blockade of oil facilities, Reuters reported in May.

Limited Russian export

The new quota also includes Russian production, which has been curtailed by sanctions over the war in Ukraine, he said.

Dan Pickering, chief investment officer at Pickering Energy Partners, said Russia’s oil production “default” will slowly decline.

“It will become less relevant in this cartel group as Europe and the rest of the world start imposing sanctions on Russia,” he told CNBC.

Like Sankey, Pickering said OPEC doesn’t have much overcapacity outside countries like Saudi Arabia and the United Arab Emirates.

“It comes down to just a few countries and what they want and can bring to the market. So Russia will slip out of this cartel over time,” he said.

China and India have been buying more oil from Russia, but that won’t be enough, said Rachel Ziemba, founder of Ziemba Insights.

“Ultimately, I don’t think the logistics are there to redistribute completely,” she said.

Question not destroyed

Despite supply concerns and very high oil prices, energy demand has not fallen much.

“China is coming back from Covid, so that is picking up. Seasonally, we generally see strong demand in the summer [and] you have a pent-up demand to travel related to some sort of Covid situation from the past few years,” Pickering said. He said some of the demand is eroded when West Texas Intermediate is over $115 a barrel.

Sankey said, however, that demand doesn’t seem to respond to higher prices yet.

On Friday evening, in Asia, US crude fell 0.6% to $116.17 a barrel, and Brent fell 0.48% to $117.05 a barrel.

Gasoline and diesel prices are even higher due to restrictions on refining capacity, Sankey said.

“Still, the demand is not destroyed, so it’s a very optimistic setup, but it’s a little crazy to be honest,” he said.

“Everyone is flying more and driving more. Everyone is a little bit immune to it. It’s a crazy situation and our forecast is $110 to $150 Brent over the summer and beyond,” he said.

— Weizhen Tan and Pippa Stevens of CNBC contributed to this report.

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