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Opec readies next move in bid to avoid oil market's taper tantrum

As fuel demand recovers, the producers are about to open the taps a little but that step carries its own risks

New York

SAUDI Oil Minister Prince Abdulaziz bin Salman likes the idea of Opec+ acting as the central bank of oil. And he expresses admiration for Alan Greenspan, former chairman of the US Federal Reserve.

The challenge now confronting the oil producers' club is one that's all too familiar to the Fed: how to avoid a "taper tantrum", the market panic that ensued when the institution proposed tightening monetary policy in 2013.

Having successfully doubled crude prices over the past few months through unprecedented output cuts, the Opec+ alliance led by the Saudis and Russia is poised to begin unwinding these stimulus measures. As fuel demand recovers with the lifting of coronavirus lockdowns, the producers are about to open the taps a little.

But as Mr Greenspan's successors discovered seven years ago, taking away the punch bowl carries its own risks. A second wave of the pandemic threatens another slump in oil consumption, while the billion-barrel mountain of inventories that piled up during the first outbreak still looms. If Opec+ increases supply just as the market falters then prices could crash once again.

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"When they look at prices over the quarter, when they look at green shoots of demand pick-up, I think they feel good," said Helima Croft, head of commodity strategy at RBC Capital Markets LLC. "I do think they are cognisant though of some of the potential clouds on the horizon."

It's a balancing act that Prince Abdulaziz and his counterparts must weigh on July 15, when they hold an online meeting of the Joint Ministerial Monitoring Committee (JMMC), the panel that reviews Opec+'s progress.

The JMMC will consider whether the 23-nation alliance should keep 9.6 million barrels of daily output off the market for another month, or restore some supplies as originally planned, tapering the cutback to 7.7 million barrels.

As the demand recovery gains traction, members are leaning towards the latter option, according to several national delegates who asked not to be identified.

Shipping schedules for August are already being set, so the course is more or less locked in, one said.

In Russia, the most influential non-Opec member of the alliance, major oil companies are preparing to increase production next month in the absence of other guidance from the Energy Ministry, according to two people from the industry who spoke on condition of anonymity.

Russian Energy Minister Alexander Novak said on July 2 that no position on an extension had been taken yet, but stressed that it's better if Opec+ sticks to its previous decisions.

Opec+ can go ahead with the designated increase without inundating the market, said Bob McNally, founder of consultant Rapidan Energy Group and a former White House official. Global demand will rebound by 18 per cent this quarter to 95.7 million barrels a day as economic activity resumes, he predicts. That will whittle away inventories at a brisk clip of 5.6 million barrels a day.

"Our balances show hefty deficits in the third and fourth quarters, even with a tapering," Mr McNally said. "I think the market will handle it pretty well."

Yet the strategy is not without risks.

While oil prices have recovered to US$43 a barrel in London, from a two-decade low of US$15.98 in late April, sentiment in the market remains fragile.

The acceleration of the pandemic in the US, where infections hit a record last week, and its re-emergence in Asia is "casting a shadow over the outlook", the International Energy Agency warned in a report on Friday.

There's also still a price discount on prompt crude futures - known as a contango - in the US and Europe, suggesting the wider market hasn't yet tightened. Crude inventories in the US and China are near record levels, government and satellite data show.

"The kind of recovery that people would have expected maybe by now has not materialised," said Mohammad Darwazah, an analyst at Medley Global Advisors. "There's no doubt the consensus is we will get a tightening of the market, we're just not quite there yet."

As a result, Riyadh is expected to insist that if output is restored, countries abide by their mandated limits - and that exporters who haven't yet made their share of the cutbacks atone for it. BLOOMBERG

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