OPEC Cuts production, What Next?

OPEC has announced that it has reached a deal to cut production of petroleum. The production is the first cut in 8 years and it shows just how desperate the oil producing nations around the world are starting to feel when it comes to the drop in price of crude oil. Over the last couple of years, OPEC countries have been trying to squeeze each other out of the market, and this could be a bit of a capitulation and perhaps a realization as to just how dire the situation is. Remember, many of the OPEC nations rely on oil exports to fund social programs, and without those unrest very well could find its way into some of those countries.

The deal that was reached suggests that OPEC will cut production by 750,000 barrels a day. The cut won’t take place until November, and the committee will be set up in order to determine how much each member will cut. In reaction, the oil markets jumped more than 4%, as this is seen as a very bullish sign. However, there are quite a few things that could get in the way.

The first thing you have to keep in mind is that Saudi Arabia and Iran have a long history of not cooperating. While they may be able to do so for a short time, it’s hard to imagine a scenario in which they cooperate with each other for the longer term. Secondly, OPEC and other oil-producing nations around the world are currently over supplying the market by slightly more than 2 million barrels a day. In other words, we are still talking about an oversupply. Is because of this that we could very well see this rally sputter out. And then the two major issues that OPEC can do nothing about: demand. Many of the world’s economies are struggling at the moment, and therefore the demand for oil has dropped drastically. The other major issue that they have to deal with is the fact that the United States will become the world’s largest energy producer within the next decade. The US is not beholden to OPEC policy, and quite frankly will continue to drill in spite of whatever needs OPEC seems to have.

We have seen a nice rally in the oil markets, but at this point in time we are starting to approach pre-significant resistance. With this being the case, it’s possible that we see sellers jump into this market much quicker than people expect. Beyond that, the US dollar is set to be one of the stronger currencies, as the Federal Reserve is still thinking about an interest-rate hike. With all of these factors involved, the rally in the oil market may very well end up being a nice selling opportunity.