OPEC cuts unlikely to have long-term impact on oil markets

Morningstar's Preston Caldwell says the current cuts will be reversed by the end of the year due to U.S. shale production.

Preston Caldwell 24 February, 2017 | 6:00PM
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Preston Caldwell: In the last month, it has become increasingly clear that OPEC has been successful in achieving the production cuts that it announced in November of last year. Nevertheless, as we reiterated in our note immediately following that event, there are plenty of reasons to doubt that these cuts will have a material long-term impact on oil markets.

First, looking at the last 20 years of OPEC production cuts, we can see that none of them have lasted longer than a year. To be sure, OPEC has been capable of short-term supply cuts, especially in response to equally short-term recession-induced demand shortfalls, as in 2009. But the organization has been incapable of sustaining long-term production cuts in order to counterbalance long-term supply/demand shifts, as was the case for the decade of weak oil prices following the mid-1980s oil price crash.

Today, as during the 1980s, oil markets have been affected by just such a long-term shift. That shift is the advent of abundant, low-cost U.S. shale oil production. We believe the coming U.S. shale production response to OPEC cuts will shock the market. U.S. shale will be able to fulfill the oil supply gap caused by OPEC cuts even if these cuts last longer than we expect. But moreover, we believe that U.S. shale's response will shaken OPEC members' resolve, and thus the current round of cuts will be reversed by the end of this year.

Our midcycle oil price view remains unchanged post-OPEC cuts at $55 WTI. This is below consensus, and as such, the many names under our coverage which incorporate expectations of higher prices appear overvalued, in our view. However, we continue to be bullish about some refiners, including HollyFrontier and Tesoro, as well as some E&Ps, including RSP Permian and natural gas-levered names Antero and Range.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Antero Resources Corp25.41 USD-0.04Rating
HF Sinclair Corp58.66 USD0.65Rating
Range Resources Corp31.34 USD-0.22Rating

About Author

Preston Caldwell

Preston Caldwell  is senior U.S. economist for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc. He also leads Morningstar’s China macroeconomics research team. Previously, he served as a member of the energy sector team, covering oilfield services stocks and helping to craft Morningstar’s long-term oil price forecasts.

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