Why the OPEC+ Cut is a brake to overcapacity?

April 3rd, the OPEC+ JMMC meeting was held as scheduled. Due to unexpected signals from Saudi Arabia and other member countries on voluntary production cuts two days prior, this meeting received much attention from the market.

he meeting officially announced a voluntary production cut plan and determined details such as reduction quotas and benchmarks. Eight OPEC+ agreement countries including Saudi Arabia, Iraq, United Arab Emirates, Kuwait (with Gabon added compared to previous news information) will voluntarily reduce their total output by 1.157 million barrels per day with a benchmark for reducing production set at the agreed-upon October 2022 production level and a reduction period from May to December 2023.

In addition, Russia has postponed its active reduction period of 500 thousand barrels per day that was supposed to start in March 2023 until the end of this year with its benchmark based on actual February 2023 output levels. OPEC+ stated that this decision is a preventive measure aimed at maintaining stability in the oil market.

At both production meetings in December 2022 and February 2023, OPEC+ chose to maintain their reduction targets while waiting for improvements in fundamentals. Since early this year there has been an ongoing oversupply of oil supply relative to demand; OECD crude oil inventories have turned into accumulations; European and American sanctions against Russian maritime petroleum transportation had less impact than expected; coupled with overseas banking risks events occurring in March causing panic among investors leading pessimistic expectations about demand strengthening which triggered another round of reductions by OPEC+.

As we pointed out that "from the perspective of OPEC+'s output decisions if fundamental improvement falls short of expectations it cannot be ruled out that they would further reduce output to support crude prices." This time's additional reductions by OPEC+ may be the first step in "braking" the current oversupply situation of oil fundamentals, although it may not necessarily reverse the oversupply.

It is expected to improve weak expectations and we predict that it will support Brent crude prices to rise in the short term up to $85 per barrel. Looking ahead, while there are still risks of declining Russian oil supply, OPEC+'s additional reductions may increase the probability of a shortage premium for crude oil supply in 2H23 being realized; however, due to continued headwinds on demand, we suggest that it is difficult to say when global market conditions will ease.

Due to sustained weak demand and limited geopolitical impact, the supply and demand of crude oil in 1Q23 remains loose, with fundamentals improving less than expected. We expect a global oversupply of around 700,000 barrels per day in 1Q23. OECD crude oil inventories also officially turned into accumulations in January. In terms of demand, global oil demand is expected to increase by about 0.7% year-on-year in 1Q23, with actual overseas performance weaker than expected and OECD petroleum product demand growth slowing to around 0.4%. China Domestic petroleum product demand is recovering faster than expected and is expected to return positive year-on-year growth in 1Q23, with full-year incremental growth potentially reaching 800,000 barrels per day. India's petroleum product demand is expected to grow by about 4% year-on-year in 1Q23, which basically meets expectations overall.

In general,"Demands in Eastward" has been realized and actual performance has not collapsed beyond expectations.

Supply-side, we expect global oil supply to increase by about 2% year on year in Q1 23.Russian crude production was less impacted than anticipated,and after comprehensive sanctions were imposed on Europeand America, Russia's maritime exports of crude oiland refined products remained normal.

In March,the total export volume reached 5.675 million barrels per day,basically flat comparedto beforethe Russia-Ukraine conflict.The supply shock shifted towards pipeline crudeoil exports that fell morethanexpected (Germanyand Poland have successively banned Russian pipelinecrudeoil, exports totaling 45-50 million barrels per day) and Russia's voluntary reduction of 500 thousand barrels per day from March.