Three weeks ago, Mrs. Zainab Ahmed, the Nigerian Minister of Finance, Budget and National Planning, at a web conference on Citizens’ Dialogue Session, said the Federal Government was deliberating on revising the 2020 budget oil price benchmark to $20. She disclosed that this was a fair reflection of the oil price level while discussing on Government’s Fiscal Policy Decisions on the fall in Oil Prices and the COVID-19 pandemic. A few days after, it was reported that the Federal Government had approved new budget benchmarks which was at $25 per oil barrel, and a target production rate of 1.94 million barrels per day.
In my last article, now that oil is back, I noted several elements behind the resurgence in oil prices in the last few weeks. Factors are ranging to an increase in demand from China, production shut-ins from OPEC+ nations, a reduction in the number of active rigs to the lowest level seen in 11 years by U.S. drillers which trimmed output further and ease in lockdowns in globally.
On early hours of Tuesday morning at the Asian session, Brent traded at $35.60, a dip from Thursday highs at $36.98. Very few oil traders and energy analysts envisaged prices to be at these levels considering the unprecedented collapse of prices on the 20th of April 2020 were oil prices traded at negative prices. Recalling that period, everyone who had sparse knowledge on the fundamentals of oil gave their outlooks and predicted that that was the end of oil. It is similar to the effect “The Last Dance” has now, with everyone giving their two cents on Michael Jordan’s career despite never watching a complete game he played.
So, could it be said that the Government adjusting the benchmark to $25 is a little bit low, or would $35 be a fair benchmark given the recent improvements in the oil sector? The answer depends really on how quick events get back to normal or the “new normal” as the new cliché goes by these days or if there would be a second wave of infections because of premature easing of lockdowns and poor compliance in social distancing.
(READ MORE:Brent crude surges pass $36, as major oil producers stick to their pledge on oil output cut)
In March 2020, Investment Bankers Goldman Sachs cut their 2nd Quarter Brent price forecasts to $30 per barrel. This forecast was following the aftermath of the oil price war between Saudi Arabia and Russia after a failed agreement on output cuts. Two months down the line, things have considerably improved, and we now have an output deal. Historically, this is one of the most significant output deals as OPEC+ nations agreed to take 9.7million barrels a day out of the oversupplied market. As Nairametrics reported after the OPEC+ deal, Nigeria’s contribution to the cuts would be to produce 1.412 Million Barrels per day, 1.495 Million Barrels per day, and 1.579 Million Barrels per day respectively for the corresponding periods in the agreement. These production rates do not align with what the Government approved (1.94 million barrels a day) at the virtual Federal Executive council meeting.
How then should the 2020 Budget Oil Price Benchmark be reviewed? Although demand picking up from most importers of Nigeria’s oil, which should spell good news for our revenue accounts, we should be mindful that demand does not necessarily translate to sales at the headline futures contract price. The market is still recovering from the super-contango it faced a month ago. Contango defines the disconnect between physical barrel prices and the futures market. For example, Brent price at $35 does not mean Bonny Light, Qua Iboe crude our oil benchmark grades would sell at $35. If we recall, during the oil price war, Nigeria offered its oil for huge discounts and could not get buyers for their oil.
Another issue to consider is the cost of producing oil in Nigeria, which ranges around $22 per barrel. NNPC Group Managing Director, Mele Kyari, at a meeting organized by the Central Bank Of Nigeria, said Nigeria would be out of business, should the price of crude oil drops to as low as $22 per barrel. If costs are at $22, how much revenue does Nigeria generate from its limited oil sales?
In conclusion, given all these variables, I think it would be safe to pin the benchmark closer to the bottom of the market at $25, in anticipation of any adverse movements that might occur in supply and demand. This would be the right call for the Federal Government. The Bulls might be in control, but it would be advisable not to get over their heads as the pandemic can still likely throw cold water on the hopes of the price rally.
What an awesome piece with a balancing solution that will nake sure we are not affected even if there is a fall or a rise in the oil sector. I hope this get to our government. God will increase you in knowledge bro.