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Oil Market: Assessing Nigeria’s Survival Strategies as Big Players Flex Muscles

 As the glut in global oil supply continues to depress oil prices with the attendant threat to the economies of oil-producing states, analysts say the brewing leadership struggle among leading producers of oil has again underscored the need for Nigeria to hedge the economy against the backlash of the emerging price war, reports Festus Akanbi

The plunge in the global oil market worsened last week when oil price hit $45 a barrel  on Wednesday before its rebound to the $51 threshold, spooking global financial markets and raising the prospects of further belt tightening in Nigeria.

The New York Times reported that the new drop in US and global benchmarks of more than four per cent was accompanied by reports of increased Middle Eastern oil exports, continuing increases in US production and renewed worries about the declining economic fortunes of Europe.

However, oil industry analysts who monitored the trend of last week’s price shocks said the latest onslaught against oil price should be blamed on a brewing battle between Canadian and Saudi Arabia heavy crude for America’s Gulf Coast refinery market, which they said was threatening to drive prices even lower.

Proxy War

The battle for the global market share between the members of the Organisation of Petroleum Exporting Countries (OPEC) and the United States shale drillers had fuelled oil market slump, with the prices at their lowest since spring 2009 on mounting worries about a global supply glut.

The oil price which slipped below $50 on Wednesday morning, however, moved to a little above $50 later in the day, with traders warning the turbulence was far from being over.

At the height of the current confusion was Saudi Arabia’s proxy war reflected in its refusal to cut production as a means of boosting prices while it found it convenient to announce deep price discounts for its European and US customers. The decision, according to oil market analysts, has left other exporting countries, especially Nigeria at a great disadvantage.

The development, according to a leading economist and Head, Strategy and Intelligence, BGL Plc, Mr. Femi Ademola, is detrimental to the oil-dependent countries but it appears to be a necessary step for the affected countries in reaction to the development in the oil market.

Changing Dynamics
He explained that in addition to the US offering to subsidise the cost of Shale Oil, the country appears to have also approved to commence the exportation of crude oil.

“The implication of this is that the demand for oil might have become smaller and the dynamics changed. At this time therefore countries are individually arranging to get the best for themselves rather than as a bloc. You have to save yourself first before thinking of others. Other countries must quickly adjust to the new realities and focus on alternative sources of revenue,” he said.

Managing Director, Financial Derivatives Company, Mr. Bismarck Rewane, also concurred on the need for individual oil producing countries to safeguard its interest first before putting the OPEC membership at the front burner.

Rewane noted that oil price, which plunged to a five year low of $45 earlier on Wednesday recovered slightly to $51 later in the day. The question Nigerians should ask themselves, according to him, is can Nigeria survive on $45 oil price?
He said: “The issue is we can survive but under a very difficult circumstance. We cannot survive if we remain inefficient. Even at $70, inefficient arrangement cannot be supported, so there is a desperate need for us to become more efficient in everything we do.”

Was there a gang-up by Saudi Arabia and the rest against countries like Nigeria? Rewane, said no, adding that situation like this provides any aggrieved powerful members the opportunity to strike back.

He said: “In an oligopoly that we are, there is always struggle for leadership. Saudi Arabia is a price leader both among OPEC members and non-members. At a point, the Saudi Arabia’s leadership is being questioned, so what the country simply did was to say let the price play out and the marginal players fall out  then the leadership will now fall back into their hands squarely as the price leaders because a lot of things will simply become uneconomic. I can expect safely that Saudi Arabia’s leadership will be re-established.”

On what to be done to halt the drift in the economy, the BGL chief said Nigeria may have to go into full-fledged austerity measures by reducing the size of government especially with recurrent expenditure. He said: “In addition, there is need to invest in other sectors to boost revenue in the long run. The country should focus on solving the electric power problems, truly boost agricultural production and invest in transportation infrastructure.”

Ademola, who spoke on the outlook for the local currency in the midst of the turbulence in oil market, explained that the outlook for the naira is related to the outlook for the oil price. “Since we adopt the semi-fixed (managed float) foreign exchange mechanism, we need to stand ready to defend the currency with our foreign exchange. The decline in foreign exchange earnings due to the fall in oil price limit our ability to defend the naira; hence the possibility of further devaluation is high. This means that the fundamental foreign exchange weakening pressures remain and a further reduction in foreign exchange reserves in the next few months is expected which could trigger further depreciation of the naira.

Except the oil price dynamics reverses in the coming months, analysts expect further depreciation of the naira to USD/NGN 185, 195 and 205 in 3, 6 and 12 months, respectively.”

In her opinion, Managing Director, Head, Africa Macro, Global Research, Standard Chartered Bank, Razia Khan said a period of weaker oil prices is seen a necessary thing by higher-cost producers.

Expressing doubt over the allegation that the current scenario in the global oil
market was triggered by Saudi Arabia, the Standard Chartered chief said: First of all, we do not believe that this is the case.

The threat to Saudi Arabia is not from other OPEC producers – and it certainly isn’t from Nigeria, which has not been producing anywhere near capacity for some time.  Rather Saudi Arabia is hoping to bring about a situation where it is the higher-cost producers who are forced to cut supply, rather than most OPEC members.  From this perspective, a period of weaker oil prices is seen as a necessary thing.”

Khan said: “Nigeria is more exposed than other producers because it has a low level of fiscal savings – there is little buffer to fall back on.  This is in contrast to economies that have much higher FX reserves and larger sovereign wealth funds.
“But Nigeria is a large economy with significant potential. It is not too late to develop a non-oil exporting economy. It is not too late to invest in improving agricultural productivity.

“It is not too late to develop non-oil sources of revenue. A period of weak oil prices may spur much faster reform – this may indeed be Nigeria’s great opportunity for longer term transformation.  It should seize the opportunity”.

On the fate of naira, Khan said the the imposition of a zero trading net open position on the banking sector has seen volumes of interbank FX transactions decline meaningfully.

However, she said there is also less visibility on what is happening.  “So when we get instances of a significant amount of USD selling by an oil company, it has a disproportionate impact on the market.

“Today, the NGN actually strengthened.  We will have to see what happens to demand for FX, but for now, some level of stability appears to have been restored.  It may be only temporary, but it suggests there is no great need for a devaluation at the very next MPC meeting.”

FBN Capital Research last week quoted some data from the CBN showing that official foreign reserves decreased by $2.3billion in December to $34.5billion.
This latest fall is the result of the sharp decline in FX inflows from the oil industry and the related exit of some offshore portfolio investors. FBN Capital, in a report said the end of the holiday season may have applied the brake to import demand but the more significant development has been the halving of the oil price over the past six months.

The Sell-off
The sell-off, which began on concerns of over-supply in high quality US shale crude, worsened after the OPEC meeting in November 2014, when Saudi Arabia ruled out production cuts as a means of boosting prices.

Reuters quoted Saudi Arabia’s King Abdullah as saying in a speech that Saudi would deal with the challenge posed by lower oil prices “with a firm will”, and gave no sign that his country, which is the No. 1 crude exporter, is considering cutting supplies.
The kingdom had on Monday announced deep oil price discounts for its European and US customers, thus adding to the bearish state of oil markets already staggering from Russian output at post-Soviet-era highs and Iraqi oil shipments near 35-year highs.

As the stand-off between OPEC and US producers of light persists, sweet shale oil has captured the limelight in recent months.

With the clash over heavier grades playing out in the shadow, market watchers said opaque physical market may put even more pressure on global prices that have halved since June 2014.

Offering Oil at Discounted Prices
Reuters reported that two factors will come into play over the next few weeks.
The first is that Saudi Arabia is offering crude at discounted prices in an attempt to defend its remaining share of the important regional market, which has shrunk by more than half in recent months.

There are also strong indications that new oil pipelines will pump record volumes of Canadian crude to the southern refineries, many better equipped to process heavy crudes than lighter shale oil.

The US Gulf Coast is already facing over-supply and with Saudis also facing fierce competition for their light grades, it is feared that the arrival of Canadian crude would push the prices lower at a time when oil markets already face a global glut expected to last for a year or longer.

The plunge once again sent fear through global markets. The Dow Jones industrial average fell 331.34 points, or 1.86 percent, to 17,501.65.

The Standard & Poor’s 500-stock index, a broader benchmark, fell 37.62 points, or 1.83 percent, to 2,020.58. And the Vix, a measure of market volatility that is known as Wall Street’s fear gauge, leaped about 12 percent.

In response, investors sought safety in government bonds around the world. As bond prices rose, the yield on the 10-year Treasury note fell to 2.03 percent on Monday.

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