Oil Market Oil Market Without Price Anchor – Saudi Won't Cut Ouput, Study Says

Editor: Dominik Stephan

The oil market is in turmoil: Prices are declining, as producers churn out barrel after barrel. Now, all eyes are on the world's biggest producer – Saudi Arabia. But the sheiks could be unwilling to cut production volumes a new PIRA report says.

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Prices are likely to remain low, NYC-based PIRA Energy Group reports: There is just too much supply relative to demand at anything near $100/Bbl Brent. Hence OPEC will let the market set prices for now and see what price the market needs to inevitably balance supply and demand. PIRA believes initially the market needs to see a 6 handle for WTI and the low 70’s for Brent. This should slow supply growth and help to rejuvenate demand.

Under current and expected market conditions, cutting output to support price would be self defeating, making the structural imbalance even worse. The oil market has lost its price anchor; so markets will dictate prices.

The Saudi Dilemma: Why Arabia Didn't Want to Cut Output

While the global price elasticity of oil demand and supply is extremely low, the price elasticity faced by the Saudis, as a swing producer, is much higher. In fact, if they are required to absorb 100% of the swing in the call on OPEC, the medium term elasticity faced by the Saudis is likely greater than 1 meaning that their export revenue will fall in response to a price increase.

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Thus in an environment like now, where it is hard to see the Saudis getting cooperation from other OPEC (and/or non-OPEC) members, a decision to cut production will likely prove to be a revenue loser after several years. Of course, the Saudi decision on production volumes will not be based solely on export revenue maximization.

Oil Market Turbulence Affect Gas Derivatives

In the wake of the turbulent oil markets, propane's discount to naphtha in Asia improved by $1 to $27/MT. At these levels propane remains expensive relative to other feedstocks for petrochemical usage. As in Europe, PIRA’s spot generic cracking margins indicate that butane is currently the most economic feedstock in NE Asia. Naphtha’s cracking economics fell by 5¢ to 32¢ while butane’s improved to 41¢. Propane remains at the back of the pack at 31¢/lb ethylene produced.

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