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OPEC Faces Uphill Struggle After IEA Find 230million Barrels Of Oil Storage

14/08/2017 12:48 BST | Updated 14/08/2017 12:48 BST

In what should be considered the worst news for the oil industry the IEA has announced that there are approximately 230 million more barrels of oil in storage than previously believed.

According to the IEA, China accounted for over 25 percent of a reassessment of non-OECD demand in 2016, slashing it by a heavy 420,000 barrels per day. Approximately 157 million barrels of oil were unaccounted for, which means they were placed in storage somewhere. The remaining inventory increase came from various demand reassessments the IEA made for 2015.

The IEA and most other analysts were focused on the OECD numbers and not accounting for the rest of the global oil market. The consequence is that more oil will need to be drawn down before the market rebalances.

The revelation explains the weak response of the price to the cuts and flips the rebalancing strategy on its head. The process needs to start all over again when measuring production against the stockpile level of early 2014.

Bloomberg reports the miscalculation means there is "almost 25 percent" more inventory than was thought to be in place at the beginning of 2014. Another 1 million barrels per day in production cuts will have to be put in place to draw down that much in a six-month period.

With OPEC compliance faltering under the existing deal, and Russia showing little interest in cutting more production, it's dubious as to what will be done going forward, even if the terms of the deal are changed on paper and announced in the media.

Under normal market conditions, even with shale supply, there should have been a little more support for oil prices above $40 - 50 dollars. Demand has not been climbing because some countries are still drawing down excessive inventory which the market had not taken into account.

The news will leave investors and NOCs reassessing their positions as prices will remain lower for longer. Companies in the upstream will need to focus on their debt, margins and free cash flow. Businesses in the downstream may have an advantage.

Decisions made on faulty data will need to be recalculated on an entirely different scenario. Instead of drawing down inventory and hoping for price rises, the market has been doing nothing much more than treading water.

If participants in the oil production cut want to balance the market quicker, the only way is to cut output at a higher and faster pace. This is happening at a time when the resolve of the participants is weakening, and oil production from Libya, which is exempt from the deal, has been soaring.

With its revisions, the IEA has cut the demand for oil in the current quarter by 800,000 barrels per day. This comes on the back of an increase in OPEC production of 200,000 barrels per day in July.

The IEA has now projected oil inventory to climb in this quarter and thinks there will be a modest draw in the last quarter. Taking it all into account, the second half for stockpiles will remain unchanged. With OPEC alone, current production levels would add another 170 million barrels to global oil inventories, representing six times what the drawdown will be for all of 2017.

The only good news is that producers have reduced a lot of the costs out of the process and are prepared to endure a prolonged period of lower prices.