Crude oil is down 10% in the last few weeks, and is trading below $50. Crude oil storage is within striking distance of the all-time record 528.4 million barrels, with turnaround season just starting to kick in. Domestic crude oil production, meanwhile, is on the rise, and is above 9.1 million for the first time since February 2016. The bearish predicament has broken the back of the spec position, with funds shedding record amounts of contracts in the weekly CFTC report. One has to wonder, “Can it get any worse?”  The answer is “yes it can.”

The OPEC production cut deal expires on May 25. There has been a lot of noise in the press about how well the participating countries have been sticking to their production reductions. The Kuwait oil minister recently told the state run news agency KUNA that OPEC compliance is at 102%, down from 140%, but still rolling forward at a rather impressive level. The problem is, one country is making the majority of the cuts, and that country is the largest producer in OPEC. Saudi Arabia was scheduled to cut production by 486,000 barrels-per-day (bpd), but has gone above and beyond, cutting production by 598,000 bpd. The Saudis' cut is 23% above their target. The only other OPEC country cutting above target is Angola, with the West African country taking 100,000 bpd off-line versus promises of a cut of 78,000 bpd. Kuwait is close to target, but not quite there.

Saudi Arabia Oil Minister Al-Falih would not comment on an extension of the OPEC production cut deal when he spoke at the CERA conference in Houston in early March. Al-Falih warned that Saudi Arabia would not “bear the burden” of the production cut deal, and the other twenty-four partners to the agreement would also have to do their part. Unfortunately for OPEC, Al-Falih’s comments were followed up the next day with a huge US storage build, and without a rock solid guarantee of Saudi price protection, the market tanked. The OPEC Secretary General and the Oil Minister of the United Arab Emirates tried to sooth markets over the next couple days, insisting that OPEC was indeed still committed to the oil production cut project. But the damage was done.       

Saudi intentions started to come under scrutiny in early March when they cut their official selling price (OSP) to Asia, Europe and US customers. You do not cut prices when you are trying to sell less crude oil. Iran and Kuwait quickly followed suit, cutting the OSP to their customers. This week’s (March 20) EIA report also gave clues to true Saudi intentions. Saudi Arabia exports to the US in early March were as high as 1.5 million bpd, the highest level since August. Iraqi exports to the US were also elevated. US EIA crude oil storage has been at record levels for weeks. You do not export crude oil to the most oversupplied market in the world if you are worried about price.  

It is interesting to note that Saudi Arabia annually tends to take around 900,000 bpd of crude oil off the market during the Saudi winter. In the summer, those barrels are needed to generate power for air conditioning in the broiling Saudi heat. The Saudi summer is not too far off, with temps rallying into the 110 degree plus range by May. Many analysts have argued that the Saudis simply monetized the seasonable slide in demand, but will be challenged to “hide” those barrels once the Saudi summer starts to cook.

The current OPEC deal expires on May 25. In my opinion, the most likely scenario will be a rollover of the existing deal, with OPEC vowing to “accommodate customers that need extra barrels.” In other words, vow to produce at around 32 million bpd, but give themselves room to cheat at will. That could easily lead to an OPEC race to cut official selling price, or force members to fight for market share. That could lead to a nasty OPEC spat, with members pointing fingers and calling each other names. It has happened before.