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Opec details remain light despite oil stock surge

The oil cartel's unexpected agreement to reduce supplies caused a surge in oil prices and energy stocks, but faces serious hurdles
October 6, 2016

Investors in oil stocks enjoyed a spike in the value of their holdings this week after the Organisation of the Petroleum Exporting Countries (Opec) agreed to reduce output to between 32.5m and 33m barrels a day, following an extraordinary meeting in Algiers.

Though light on detail, the cartel's decision defied analyst expectations and appeared to contradict Saudi Arabia's two-year strategy to keep market share through oversupply. News of the cut, which could translate to a 2 per cent decrease in production from August's output of 33.24m barrels a day, immediately led to a 6 per cent surge in the price of a barrel of Brent crude and pushed several oil-related stocks with it.

So why is Opec doing this now and what does it hope to achieve? Apparently, it's a sudden effort to address the strains on the fiscal positions and economic growth prospects of oil-exporting countries, many of which have been hampered by two years of falling investment and crude revenues. Throughout the downturn, the cartel has insisted its actions are designed with "balance and sustainability in the market" foremost in its mind, but the cut to production is now explicitly aimed at speeding up the "ongoing drawdown" in global stockpiles of oil and "bringing the rebalancing forward". Such explicit targets were notably absent at the last meeting in June.

Analysts at HSBC cautiously interpreted the news as a move by the cartel to return to supply management, and said the cut could leave the market "fully balanced" as soon as the first quarter of 2017 "even at the high end of the target output range".

As Opec's entire logic of leaving the taps on was based on holding on to market share, implementing the about-turn will be a difficult balancing act. Not only is the cartel calling for co-operation from non-Opec oil-producing countries, but the announcement contained no details of which Opec members will cut production, when, or by how much. This should make the 30 November meeting one to watch, especially given Saudi Arabia and Iran remain at loggerheads.

In an interesting indication of how well markets viewed the preparedness of oil majors to withstand a sub-$50 a barrel price environment, there were big gains for the likes of Royal Dutch Shell (RDSB), BHP Billiton (BLT), and Tullow Oil (TLW), whose stock rose by at least 5 per cent.

BP (BP.) and Cairn Energy (CNE) saw slightly more modest rises. Meanwhile, there were gains of more than 8 per cent at leveraged North Sea plays Enquest (ENQ) and Premier Oil (PMO), both of which are reliant on higher short-term oil prices as part of renegotiations with lenders.