Middle East Tension Will Bring More Oil Market Speculators And Yet More Barrels
In the small hours of Friday (January 2) morning, the global oil market got its first geopolitical jolt of 2020 after a U.S. airstrike in Iraq took out Qasem Soleimani, an Iranian General of the country’s Islamic Revolutionary Guard Corps, and commander of its Quds Force, a division primarily responsible for extraterritorial military and clandestine operations.
Soleimani’s killing marked the most high profile political assassination in the region since that of another Iranian protégé – Lebanese Islamic Jihad Organization’s founder and then Hezbollah’s second-in-command Imad Mughniyeh in 2008; a man widely thought to have masterminded the 1983 U.S. embassy bombing in Beirut, and described by none other than Soleimani as “the legend of our time.”
However, there are two stark differences between both killings. First off, unlike Mughniyeh, Soleimani was an Iranian national and senior serving military official, and de facto architect-in-chief of proxy operations in Lebanon, Syria, Iraq and Yemen.
Secondly, Mughniyeh’s killing despite being blamed on the Central Intelligence Agency and Mossad, was never claimed by either whereas that of Soleimani was announced by U.S. President Donald Trump on Twitter. It came barely days after Iran’s Supreme Leader Ali Khamenei had taunted Washington that it could do nothing regionally to his country following a spate of pro-Iran militia attacks on U.S. facilities and the American embassy in Baghdad in December.
Add it all up, and it has presented oil market speculators, ever keen on geopolitical risk premiums, with a very unique set of circumstances to take a punt on. Unlike other high profile take-downs of recent years, including that of Al-Qaeda leader Osama Bin Laden (2011) and ISIS leader Abu Bakar Al-Baghdadi (2019), the geopolitical ramifications for the market are visible and direct. Both were wanted terrorists but Solemani was an Iranian state actor.
Iran and the U.S. have renewed hostilities since Trump withdrew Washington from the 2015 Iranian nuclear settlement brokered by European governments and the Obama administration in 2018. Since then, the President’s sanctions have squeezed Iran’s oil exports from an average of ~3.2 million barrels per day (bpd) in the wake of the settlement down to 2.15 million bpd, going by S&P Global Platt’s OPEC survey for November 2019.
In the intervening period, oil tankers in the Persian Gulf have been attacked and Saudi Aramco’s Abqaiq processing facility hit by drone and missile strikes. Blame of these has been apportioned on Iran, something it denies. Iran’s forces in the Gulf have also detained (and released) oil tankers and cause other maritime harassment.
Before the latest escalation, long bets on Brent and West Texas Intermediate front-month futures contracts, i.e. calls on prices going up, were already on the up following OPEC’s decision to deepen its crude production cuts by 500,000 bpd to 1.7 million bpd at its December meeting.
Taking out the actions of more pragmatic physical traders, pre-Christmas commitment of traders’ data from both U.S. CFTC and ICE pointed to non-commercial traders expanding their collective net-long positions in oil futures to a 12 to 15-month high during the week ended Christmas Eve.
Soleimani’s assassination has added the metaphorical fuel to the fire in the eyes of some. In European trading on Monday (January 6), Brent futures briefly hit $70.74 per barrel, before falling back to $69.56, up $0.96 or 1.40% intraday at 11:49 GMT, despite there being no actual oil supply disruption as yet. Tired old theories of the Iranians shutting down the Strait of Hormuz or all out war are doing the rounds once again.
Both are as unlikely in the wake of the latest flare-up, just as they were following attacks on Abqaiq in September for precisely the same reason – a need for their own self-preservation by Iranian hardliners.
A direct strike on U.S. assets would leave Iran’s own coastline and all its ports vulnerable to a vastly superior American airstrike arsenal. And closing the Strait of Hormuz would be self-defeating to begin with, since it won’t last both politically, as China which takes over 40% of its crude imports via the maritime artery won’t stand for it, and militarily, as the U.S. would respond.
Instead, Iran would respond via its preferred modus operandi – proxy wars the likes of Soleimani facilitated, and the likes of Mughniyeh benefited from. Such disruptive tactics equated to a near $10 per barrel premium in the eyes of many paper traders prior to the U.S. shale revolution, and before Obama and European leaders initially brought Iran back to the negotiating table.
Anyone who thinks a return to those days is imminent short of an unlikely all out Gulf War III is kidding themselves, especially given that the U.S., one of the world’s leading crude consumers, is itself on the verge of becoming a net energy exporter and on track to pump in excess of 13 million bpd in 2020.
An upper $60s to lower $70s per barrel Brent price range is also likely to bring more non-OPEC crude on to the market, something that was already on the horizon. According to the International Energy Agency (IEA), non-OPEC countries will alone add another 2.3 million bpd to their supply in 2020, while global oil demand growth is expected to be typically around 1.2 million bpd.
What’s more, firmer $60 oil prices will bolster the troubled finances of fringe U.S. shale players desperately looking to balance their books. It would even prompt Russia, Saudi Arabia and others within OPEC+ to monetize their barrels better, and more of them.
However, that won’t stop speculative punts given that both Trump and Iran have their own respective idiosyncratic unpredictability. Additionally, unlike the outage caused by Abqaiq attacks, in this case there is no quick fix. But whichever way you look at it – more speculation and more oil barrels are imminent.