When OPEC signed their historic deal to cut member production by
a collective 1.2 million barrels a day, the oil industry
celebrated. Investment would once again rise, the glut of oil in
land and floating storage which was reaching full capacity would
shrink and prices would start a steady climb upwards. Two months on
and the market is beginning to question how successful the OPEC
play has been.
Should traders equip themselves legally for a renewed rush to
storage? Will there be a renewed Contango with its storage
arbitrage? We look at what in-house counsel can do to prepare for
what could be a 12 month rollercoaster ride.
Scenario 1: The OPEC Plan succeeds
Let us assume that OPEC's plan comes to fruition. We should
start to see a period of rising but steadying price movement. The
Contango will dry up and storage capacity will become available as
production limits start to have effect. We describe below the
likely legal issues that would arise as a result.
Traders who have bought into long
term storage agreements may need to downsize. This could lead to
penalties for premature termination, depending on the terms
An uptick in pricing may put some
buyers with long term supply contracts under pressure. It will be
important to consider whether credit risk mitigation and guarantee
cover is adequate
A pricing shift is likely to affect
prepayment long term supply deals. In particular, balancing
payments will increase.
Scenario 2: Production over heats and prices become
There are of course elements of the market which OPEC cannot
control. Russia sits outside of OPEC and the production strategy of
US shale producers has at times defied economic logic. Will Iran
stick to the game plan given their recent return to the market?
With these factors combined, there is certainly no guarantee the
OPEC plan will succeed. But what will happen if we return to the
boom/bust era? We describe below some of the ramifications.
Contango could return and storage
capacity would be at a premium once more. Flexibility of storage
arrangements will be required
Banks may get nervous about financing
in an uncertain market making finance availability scarce
Volatility will inevitably bring
casualties. Credit exposures will need to be checked
What can Counsel do to protect themselves?
Review storage contracts for
Assess time available operationally
and put increased financing in place to cover increased pricing for
Examine impact on long term supply
deals – will your credit/guarantee arrangements be
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