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Oil market should worry but not fear Iran

Monday, 20 February 2012 | 00:00
Iran’s latest saber-rattling has made its mark on the oil market already, contributing to a rally in U.S. prices to more than $102 per barrel, but while nervousness in the market over Iranian threats is warranted, outright fear is not.
In other words, oil prices may have just gotten ahead of themselves.
Oil futures closed Thursday at $102.31 a barrel on the New York Mercantile Exchange for a year-to-date gain of 3.5%.
In terms of oil market sentiment, “’afraid’ would not be the word, but a ‘little nervous’,” said James Williams, an energy economist at WTRG Economics. “Iran speaks loud but isn’t known for carrying through on its threats.”
Still, those threats are hard to ignore. Iran has warned that it may block the Strait of Hormuz, a key shipping route for oil, or disrupt crude supplies to Europe in retaliation for European Union sanctions on the nation.
Tension between Israel and Iran is also worsening, and Iran has been boldly displaying its nuclear achievements in defiance of the West.
“All the talk about Iran and market disruption, especially the militaristic saber-rattling, much originating with Iran, does lead to higher oil prices,” said Byron King, editor of investment newsletter Outstanding Investments. “It all makes markets nervous. This pushes oil prices upwards.”
Oil futures prices are trading at their highest level in six weeks. And, understandably, much of the climb has to do with Iran, which is the world’s third-largest exporter of crude after Saudi Arabia and Russia.
“Recent oil gains are warranted and historically, events in Iran have always moved global oil prices,” said Mark Williams, a former energy trading-floor executive in Boston who teaches finance at Boston University.
It was one of the “original gang of five” that founded the Organization of the Petroleum Exporting Countries in 1960, and “what Iran does has and will always matter when it comes to moving oil prices,” he said.
“The influence of an externally imposed boycott on Iranian oil or [Iran’s] unwillingness to send oil to the West has the same outcome: Supplies fall and prices rise,” he said. History lesson
But if history is an accurate enough model, confidence in Iran’s willingness and ability to follow through with its threats should be slim.
“How many times has Iran held ‘naval exercises’ and threatened to close the Strait of Hormuz?” said Anthony Sabino, a lead attorney at Sabino & Sabino, a practice that offers legal counsel to the oil and gas industry. “Most people have lost count.”
Still, the U.S. oil market got a reality check when, in 1973, certain Arab nations, including Iran, proclaimed an oil embargo against the United States in response to the Americans’ support of the Israeli military during the Yom Kippur War, which began after coalition states led by Egypt and Syria launched a surprise attack on Israel.
Oil prices were “somewhat amazingly” below $4 a barrel in 1972, said Matthew Parry, a senior oil market analyst at the International Energy Agency, and by the end of 1974, the oil price had quadrupled to more than $12 per barrel.
So oil prices have previously escalated sharply on similar oil-disruption threats from Iran, he said, also citing the Iranian revolution back in the late 1970s, which saw oil prices more than double.
In terms of Iranian threats in more recent years, Michael Lynch, president of Strategic Energy & Economic Research, mentioned the impacts of the Tanker War in the 1980s, when Iraq and Iran attacked each other’s oil tankers as part of the Iran-Iraq War, as well as the Iranian seizure of British sailors in 2007.
In the Tanker War, “most tankers were not seriously damaged, and prices were not particularly affected because there was a huge market surplus,” said Lynch, but when Iran seized 15 British sailors in 2007 on trespassing charges, oil saw a short-term boost of $10 per barrel, he said.
“The situation now is more serious in part because of the apparent progress in Iranian nuclear work and fears that the Israelis might attack soon, and in part because the internal political pressure seems to be ratcheting up, as sanctions affect the economy and the public’s lifestyle,” he said.
All talk and no action
Most analysts believe it’s highly unlikely that Iran would actually block the Strait of Hormuz, given the affects on the nation’s economy and the size and scope of such a move.
In the ‘unlikely but statistically possible event that the Strait gets closed, it’ll be an economic and energy event about which you’ll tell your grandchildren, should you live long enough.’
Byron King, Outstanding Investments
“The likelihood of a total blockage is incredibly small, as it would require a big military effort to block the Strait of Hormuz, and I don’t imagine such an effort would go without resistance,” said IEA’s Parry.
But if Iran does halt oil shipments through the Strait, all bets are off.
Flows through the Strait in 2011 represented roughly 35% of all seaborne-traded oil, according to U.S. government data.
In the “unlikely but statistically possible event that the Strait gets closed, it’ll be an economic and energy event about which you’ll tell your grandchildren, should you live long enough,” said Outstanding Investments’ King.
That event may “spike oil prices by $50 per day, every day for a few days — to $350 per barrel within a few days, then settling back to $250 per barrel,” give or take a few dollars either way, King said.
Boston University’s Williams was a bit more conservative, and said the market may see $150- to $200-a-barrel oil in the event of a closure.
For now, however, prices are up due to the usual reasons: “fear and stupidity,” said Sabino, the attorney. “Fear for its own sake, and stupidity because it’s stupid to be afraid, given we’ve lived through this before for decades.”
And while it’s difficult to quantify, he believes that anything north of $100 per barrel would be the “fear and stupidity increment.”
“Take the ‘fear factor’ out and there is no reason for [oil] to crest $100 and, to some extent, it probably shouldn’t even breach $95,” said Sabino.
Source: Market Watch
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