We are living in a new world in terms of oil and gas prices. Specifically, gone are the days of $100/barrel crude oil. Deal with it. While we factor in lower for longer interest rates (several central banks have gone negative for Pete’s sake) in an effort to engineer economic recovery post-crisis, we must also assume the same for the prices of oil and gas. The fundamentals are quite simply awful. And that’s not about to change any time soon. Everyone who’s anyone is pumping oil out of the ground as fast as they possibly can, so long as borderline economical, in order to sell as much as possible at new lower prices. Stockpiles are growing. A proper global supply glut we have. While OPEC has remained stubborn in terms of high production to maintain market share and squeeze out the stateside frackers, the new kids on the block have not all packed up and gone home. Far from it. Many have in fact showed similar levels of stubbornness (albeit less vocal) in holding out and enduring the pain. Others have gone bust and, it’s true, worries do surround the sector in terms of debt levels and sustainability. But their presence is the result of an effort to profit from previously higher oil and gas prices and to help the US, a net oil importer, become self-sufficient.

But it is the comments from OPEC’s Secretary General and the Saudi Oil Minister this week which have confirmed our long held belief – that OPEC has lost its position as global swing producer. Things have got so bad among OPEC members, in terms of the pain from unsustainably low oil and gas prices, that the group is no longer a cohesive production-setting cartel. And comments about production freezes and cuts of late equate to the cartel’s clout waning amid the tussle to regain control of oil and gas prices. With the price of a barrel of crude languishing around $30 and with a ceiling preventing technical upside beyond the mid-$30s, the events of the past couple of weeks are very significant.

Firstly we had a crazy merry-go-round of comments from the likes of Russia and OPEC suggesting a meeting to discuss production cuts. No surprise that this delivered nothing bar some more short-term volatility in the oil price. Markets got excited, taking oil back to its recent ceiling, then realised their hopes were misplaced. Then, a few other OPEC members had a go at suggesting a meeting. One did actually take place, where it was agreed that a production freeze would be a good idea, but only if everyone was on-board. Let’s be clear though: that is not going to happen with Iran only recently freed from sanctions and desperate to ramp things back up. Iraq, to boot, is trying to rebuild its oil-led economy. And where does that leave other, smaller OPEC member states given that Saudi Arabia has been forced into evaluating sovereign debt sales for the first time in history – even mulling an IPO of its national oil company Saudi Aramco – desperate as it is to make up the government spending shortfall from selling crude at a third of what it was 18 months ago.

Most OPEC nations have built up a heavy reliance on oil and gas (presuming, like most, that the $100/barrel party would go on forever), and so are in no position now to cut production. If Iran won’t freeze, nobody will. And because things have got so out of hand from an economic standpoint, nobody within OPEC even trusts each-other to honour any agreement to freeze production (which can’t happen without everyone on board as discussed). Outside of OPEC, Russia is suffering from sanctions and a weak Ruble. So it won’t cut either.

With a technical ceiling in place around the mid-$30’s and the new swing producer clearly being the US Frackers, this is set to hinder any meaningful upside. Why? Because the minute oil recovers to anything like $40, those in the US that had been priced out of the game could very realistically switch on their rigs as soon as economically viable.  This will just increase global supply again, which will only end up sending oil and gas prices back south. Rinse and repeat. Welcome to a new world.

Mike van Dulken, Head of Research, 25 Feb