OIL CAN BE BELOW $40
FT - Opec set out to woo some of the biggest oil hedge funds in the industry at the turn of the year, holding private meetings where it laid out plans to cut crude supplies in an attempt to get prices back towards $60 a barrel.
It was a dramatic change of tack from an oil cartel that had for years slammed funds as "speculators", which it accused of turning the world's most important commodity into a casino. But it was also a recognition that trades placed in Mayfair or Connecticut sometimes wield almost as much influence as the number of supertankers ploughing the sea lanes.
Six months on the relationship lies in tatters, with traders rapidly losing faith in Opec's efforts to end a three-year old oil glut. Brent crude, rather than rallying, has had its worst first half to a year in two decades, dropping by a fifth since January to $45 a barrel.
The hedge funds, which at one stage amassed a record billion barrel bet on crude prices rising, are now warning that traders could push oil prices back below $40 a barrel, thus forcing Opec's de facto leader, Saudi Arabia, to deliver on a pledge to do "whatever it takes" to balance the market.
"If the funds decide to take on Opec there's no doubt we'll go below $40 a barrel," said Doug King, co-founder of the Merchant Commodity Fund. "Oil is still extremely vulnerable to a serious nosedive as we're just not seeing what we need to see."
It is a warning Opec may need to take seriously. Since oil prices crashed from above $100 a barrel in 2014 to less than $30 a barrel last year, hedge funds have often closely tracked — and sometimes led — the moves, according to traders in the industry who follow their positioning through exchange and regulatory data.
Bets by funds against international benchmark Brent crude have already climbed to almost the highest level on record, with money managers holding short positions — that benefit if the price falls — equivalent to 162m barrels, according to exchange data.
Some analysts think funds are too pessimistic, with most forecasts suggesting the market will tighten in the second half of this year, but many believe Opec is running out of time.
While the 13-member cartel has largely delivered on the plan to cut 1.8m barrels a day — or 2 per cent of global supplies — in tandem with Russia and other large producers, a number of factors threaten to swamp their efforts.
Chief among these is the rapid resurgence of the US shale industry, which is now forecast to raise production by 700,000 b/d next year to 10m b/d, with drillers roaring back when prices hovered above $50 a barrel at the start of the year.
Opec members Nigeria and Libya have also raised output sharply. They were exempt from the supply deal due to violence in both countries hitting their production. But since the fourth quarter they have restored almost 600,000 b/d of output combined.
Some cartel members have also sold oil out of storage, keeping exports high earlier this year despite cutting crude from the wellhead.
"I don't blame those traders that are not optimistic — they've been burned time and again by Opec," said Amrita Sen at Energy Aspects, a London-based consultancy that advises a large number of hedge funds.
She said Opec-led cuts were slowly tightening the market but not fast enough.
"Prices can go below $40 a barrel given the market is being dictated by sentiment and not fundamentals. There is nothing to stop it right now."
Mustafa Sanalla, head of Libya's National Oil Corporation, said that while he did not want to flood the market the country had to act in its "national interest".
"We consider that Libya has taken our share in market balancing," he told the Financial Times.
Saudi Arabia, by far the biggest producer in Opec — pumping roughly 1 in every 9 barrels of crude in the world — will face the greatest pressure to respond if funds do push prices lower.
Prince Mohammed bin Salman, who was placed next in line for the Saudi throne by his elderly father this week, has staked his popularity on transforming the desert kingdom's economy and reducing its reliance on oil.
But MBS, as he is widely known, first needs higher prices to achieve that. The kingdom will take a slice of its state oil company public next year to raise funds for seeding investment in the wider economy.
Paul Horsnell, an analyst at Standard Chartered, said MBS may not, however, be willing to order more drastic supply cuts. The kingdom is wary of losing hard-won customers to rivals, especially its regional adversary Iran.
"The Saudis don't want it to appear that they are being forced by the market," Mr Horsnell said. So far Saudi energy minister Khalid al Falih has urged patience, arguing the existing cuts will eventually have an effect.
But Mr King at the Merchant Commodity Fund believes they risk emboldening traders to make more aggressive bets against Opec if they refuse to make bigger cuts. While his own fund is down for the year due to losses in other commodities, he is up in oil.
"Opec are trying to fine-tune the situation," Mr King said. "They should be using a sledge hammer."
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