Fitch Ratings: OPEC+ Cuts Tapering Reflects Recovering Oil Demand

(The following statement was released by the rating agency)
Fitch Ratings-London-16 July 2020: The OPEC+ agreed tapering of oil production
cuts from August should support a gradual market rebalancing and may help
reduce price volatility, Fitch Rating says. We expect OPEC+ to continue to
periodically adjust the two-year deal reached in April 2020 to avoid large
production surpluses or deficits. This supports our expectations of gradual
oil price recovery in the medium term incorporated in our 'through-the-cycle'
rating approach. The second phase of the OPEC+ agreement, which was agreed
yesterday after a one-month delay, will scale back production cuts from 9.6
million barrels a day (MMbpd) to 7.7MMbpd between August 2020 and January
2021. Based on the original agreement, cuts are expected to taper further to
5.8MMbpd between January 2021 and April 2022. In practice, the tapering will
be implemented more slowly as countries that produced more than their
commitments in the previous period, including Iraq and Nigeria, have agreed to
compensate for their insufficient compliance by producing less oil in August
and September. The market is transitioning from a substantial oversupply in
1H20 to a deficit in 2H20, driven by improving demand as many counties are
relaxing their coronavirus lockdown measures. OPEC+ faces the challenge of
balancing the need to achieve higher oil prices through production cuts by its
participants and a risk of losing its market share to US shale, where the
level of investment activity will continue to be closely correlated with
prices. A sustained price recovery is contingent on demand recovering to
pre-coronavirus levels, normalised inventories and resumed economic growth. We
expect the market to rebalance in 2020-2021, and Brent average prices to
improve from USD35 a barrel in 2020 to USD45/bbl in 2021 and USD53/bbl in
2022. The main risk to this scenario is a potential second wave of the
coronavirus resulting in more lockdowns, which could lead to oil prices
remaining depressed for longer. Although this is not our base-case scenario,
re-introduction of restrictive measures in certain countries and regions,
including some US states, points to the health crisis not being under control
yet. Demand has started to recover recently: the yoy decline was 12% in June
compared with 21% in April, according to the US Energy Information
Administration (EIA). We assume oil demand will return to 2019 levels by the
end of 2021, absent the second wave of lockdowns. We expect OPEC+ to reduce
its quotas if the demand recovery reverses. US oil production fell by
2MMbpd-2.5MMbpd from its peak registered at the beginning of this year, but
has since stabilised. The level of investment activity in the sector remains
low: the number of active drilling rigs has declined by 73% this year. We
expect the shale oil producers to primarily focus on efficiency gains, but
with oil prices at USD40/bbl and above some producers may be tempted to
increase production, although in the short term such growth is likely to be
only modest. As a result of the coronavirus crisis, we have taken 54 negative
rating actions in the oil and gas sector between 1 March and 10 July,
including 22 one-notch downgrades, 12 multi-notches downgrades and 20 Outlook
revisions to Negative. Most of these actions were in North America, followed
by other regions. Contact: Dmitry Marinchenko, ACCA, CFA Senior Director,
Corporates +44 20 3530 1056 Fitch Ratings Limited 30 North Colonnade London
E14 5GN Tatiana Kordyukova Senior Director, Fitch Wire +44 20 3530 1954

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Wai Lun Wan, Hong Kong, Tel: +852 2263 9935, Email:
wailun.wan@thefitchgroup.com

The above article originally appeared as a post on the Fitch Wire credit
market commentary page. The original article can be accessed at
www.fitchratings.com. All opinions expressed are those of Fitch Ratings.


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