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Why ASX oil stocks are set to underperform this morning

The S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index is poised to open higher this morning on optimism for an early Santa Rally, but there’s one sector that’s likely to tumble.

This is the energy sector as a big drop in the oil price over the weekend will pressure our oil and gas producers. This means the Woodside Petroleum Limited (ASX: WPL) share price, Oil Search Limited (ASX: OSH) share price and Santos Ltd (ASX: STO) could cop a beating.

The West Texas Intermediate (WTI) oil price fell 4.7% to US$55.42 a barrel while the Brent crude benchmark slipped 2.6% to US$62.47 a barrel.

Supply floodgate is slowing opening

Cracks in the OPEC+ club sparked the latest sell-off with some experts wondering if the price drop is the start of a significant correction in the crude price. OPEC+ refers to members of the Organization of the Petroleum Exporting Countries and other major oil producers like Russia.

The group have agreed to cut back oil production since early 2019 to keep the market is balance after a surge in production from the US.

But hopes that OPEC+ will extend the quotas through to June 2020 are waning, according to a report on OilPrice.com.

Will Russia leave OPEC+?

Russia is showing signs of unwillingness to toe the line any longer, not that it has really over the past eight months or so. Data from the Russian Energy Ministry indicated that 11.2 million barrels were pumped from November 1 to 26, or 56,000 barrels above their quota.

The Russians probably figured that Saudi Arabia, which leads OPEC, has more to lose from a sinking oil price and should do more of the heavy lifting.

Saudi Arabia is trying to float its state oil company Aramco. It needs to keep the oil price at around US$60 a barrel to get the valuation it wants on the initial public offer, which will be the largest in the world (assuming it gets off the ground).

Russia had been not only a somewhat flexible with its quota commitments, but it is also gone quiet on the prospects of extending the quotas to mid next year.

Poor quota discipline

What’s more, Russia isn’t the only one that has been loose with its quota. A range of countries from the UAE to Malaysia and South Sudan have not sticking to their pledge in October, although their output is small compared to Russia.

Saudi Arabia and some of its allies produced less than their quota to keep things on a more even keel and Saudi Arabia is threatening to take non-complying members of the bloc to task at its next meeting.

Foolish takeaway

However, it’s not fully clear what the Arabian Kingdom can do to enforce the rule – especially when everyone knows it has the most to gain for keeping the oil price on a firmer footing.

More importantly, if Russia opted not to extend the production cutback, the oil price could take a big dive this month. The thought is enough to scare any oil-exposed investor who remembers the big drop in December 2018.

That plunge was only corrected because of OPEC+. This time round, the safety net is fraying.

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Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. Connect with him on Twitter @brenlau.

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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