OPEC and its partners stick to their plan to increase production despite the risk of an oversupplied market.

OPEC+ shrugged off concerns about the demand threat posed by the Omicron variant at its first meeting this year and stuck to its plan to increase production by 400 thousand barrels per day in February. The group has been working through a plan to bring back the nearly 10 million barrels per day of production it took offline to support the market as demand collapsed in early 2020. Under the current agreement, incremental production will be brought back monthly until output is fully restored in September 2022.

Crude prices rallied throughout 2021 as higher demand and OPEC+’s support created a deficit in the oil market. This is expected to flip to a surplus this year, which could pressure prices, as global producers resume output growth while the pace and path of the demand recovery remain uncertain. It may be a more challenging environment for OPEC+ as it looks to keep prices in a range that is supportive for members’ fiscal budgets while also appeasing consuming countries like the U.S. that are concerned about high inflation and gasoline prices.

The group has vowed to remain flexible with responding to market developments and will continue to meet monthly to discuss production adjustments. Thus far, it has not strayed from its original plan despite surging COVID cases caused by the Delta and Omicron variants. However, several members like Russia, Nigeria and Iraq have struggled to reach their production quotas, and there continue to be major disruptions in Libya as the nation’s security situation has deteriorated. Other members of OPEC+ have not filled the production gap left by these countries, although this is an option if the group feels like the market is getting overheated.

While we expect oil prices to remain volatile, the current environment is supportive for the credit profiles of investment-grade oil and gas producers, and we believe volatility will create investment opportunities within the sector. With prices well above corporate breakevens, companies have generated significant free cash flow and quickly restored balance sheets to pre-downturn levels. Going forward, we expect higher quality E&Ps to allocate a greater share of free cash flow to shareholders while lower quality issuers are likely to be more balanced regarding continued debt reduction and shareholder returns. If prices continue to trend higher, we expect shareholders to largely benefit in most cases as issuers resume dividend growth and share repurchases.