Oil prices will keep falling until Russia or Saudi Arabia hit 'pain point,' says former White House aide

The price of oil is likely to fall “much lower from here,” according to Bob McNally, who was energy advisor to former U.S. president George W. Bush.

The oil rout started on Monday, plunging over 20% following a disagreement on production cuts between OPEC and its allies. Russia declined to lower output last week, and Saudi Arabia announced Saturday that it will offer discounts to its official selling prices next month. The kingdom, the de facto leader of OPEC, is also planning to raise production, together with the United Arab Emirates.

Despite the market turmoil and resultant losses, Saudi Arabia will not cut production unilaterally, said McNally, founder of oil consultancy Rapidan Energy Group.

“Prices of oil are going much lower from here,” said McNally told CNBC on Thursday. “Everybody’s got a pain point and we’re going to go down and test it.”

Oil prices are going to fall until they hit a “political-financial pain point” for Saudi Arabia or Russia — or if North American production is significantly curtailed, said McNally. He did not give a price forecast.

Prices will test a point well below Russia’s break-even price — at 42.4 euros ($47.90) a barrel, said McNally.

But there’s more at stake than just oil. 

“National prestige is involved here, honor is involved and political power is involved. And political leaders will suffer costs in a war if they believe they are pursuing a greater and more important aim,” said McNally.

Benchmark international Brent crude oil futures were trading around $34.45 a barrel on Thursday afternoon in Asia, while benchmark U.S. West Texas Intermediate futures were around $31.66 a barrel. Both grades were over $40 a barrel last week.

“What makes this even more damaging, and more dangerous and bearish for crude oil prices and equity prices, than anything we’ve seen in modern times, is this surge in supply. The supply shock is coinciding with an authentic catastrophic demand collapse,” said McNally.

Before the talks between OPEC and its allies fell apart, oil prices had already been under pressure from the U.S.-China trade dispute, as well as the coronavirus outbreak.

With the American shale industry under siege from the oil industry turmoil, the U.S. is likely to take a tougher stance with Russia to get the country back to talking with Saudi Arabia, said McNally. That could mean tighter sanctions on Russian state oil company Rosneft, for instance, to get Russian President Vladimir Putin back to the negotiating table.

“To get reelected, you’ll do almost anything. But in this case, I think the goal is perhaps more … to raise the cost on Putin, to induce him to go back to the table with the Saudis,” he said.