“In the current environment, we believe that the largest imbalance is the potential for a large surplus in 2018, leaving low deferred prices to resolve this credible threat. Low-cost producers selling their output in the spot market should further be incentivized to reduce inventories, to generate the backwardation linking spot oil prices near current levels and low deferred oil prices,” they wrote.
But even with the cuts, OPEC will be able to reverse its policy as soon as 2018. Significant investments to increase Russian producing capacity and ongoing de-bottlenecking of infrastructure in Iraq can also lead to a rise in production.
“Such a ramp-up in OPEC and Russia production would occur in the face of still rising non-OPEC production outside of US shale, with legacy projects started through 2014 still coming online in Brazil, Canada and the North Sea in particular,” said the Goldman analysts.
To control prices, Goldman said OPEC and Russia should extend or increase the cuts until stocks have normalized, express the goal of growing future production, and gradually ramp up output to grow market share but keep stocks stable and backwardation in place.
“Achieving this will be difficult, but we see templates in both OPEC’s modus operandi of the 1990s of managed but flagged growth and the rationalization of shale growth in U.S. gas, both with backwardation,” they added.
OPEC will next meet on May 25 when they will likely extend the output cuts, said the investment bank.
Goldman is keeping its Brent spot price of $57 a barrel for the second half of 2017.