AFTER Brent crude’s 10-day decline of nearly 25%, it’s tempting to say the market is pricing in peace. It isn’t.
Rather than anticipating that hostilities between the United States and Iran are over, traders are foreseeing no immediate risk of a third round of fighting.
If the two countries reach a deal, however fragile, oil will trade significantly cheaper than its current value of around US$90 a barrel.
So I’d argue that the market is currently in limbo.
Oil prices climbed in October amid speculation that the United States would start bombing Iran again.
That market move, though, masked a significant improvement in the underlying supply-and-demand balance.
Despite near-daily Iranian attacks on tankers, crude exports from the Middle East, excluding the Islamic Republic, have surged to more than 90% of pre-war levels via both the Strait of Hormuz and bypass routes.
The current boom is reflected in the physical oil market, where multiple grades now trade at deep discount to the Brent and West Texas Intermediate benchmark futures contracts.
Canadian crude, for example, now trades below US$60 a barrel.
With Middle East exports rising and production elsewhere also strong, global supply is certainly ample to meet current demand.
I wouldn’t call it a glut but, for the first time since the war started, the world isn’t drawing on inventories every week, even allowing some countries such as India and South Korea to start rebuilding their depleted stockpiles.
That said, the flow of refined products from the Persian Gulf remains limited, keeping some prices – notably for diesel and jet fuel – elevated.
But supplies are starting to increase, approaching about 60% of pre-war levels. Refineries in the region were damaged, but most plants outside Saudi Arabia have been fully repaired.
Only a lack of tankers is constraining exports.
But the battle between Russia and Ukraine is equally important; about a third of the increase in diesel prices is due to Ukrainian attacks on Russian refineries.
Any US-Iran deal has the potential to further boost supply by allowing Iranian sales to resume.
Before the war, Iran regularly exported north of 2.5 million barrels a day of crude and refined products.
That’s enough to meet the needs of Germany, the largest consumer in the European Union.
Today, Tehran is smuggling, at best, 300,000 barrels a day, mostly via overland trucking to Iraq and Pakistan, plus small shipments via the Caspian Sea bypassing the US Navy blockade.
The effort to get fuel out of the Persian Gulf, with the use of time-consuming ship-to-ship transfers and longer routes, has made freight very expensive.
The price to rent a supertanker to ship crude from the region to China recently soared to US$1.4mil per day, up from less than US$100,000 before the war.
Global pressures, however, are starting to ease, with shipping costs in the Americas and Europe falling significantly in recent days.
A deal between Iran and the United States would extend that decline; but a continuation of the status quo is unlikely to trigger another surge.
Nine months of war in the Middle East have drained commercial and strategic oil inventories, probably to the tune of one billion barrels leaving around seven billion barrels available globally.
The demand to refill them is real, but the pace at which they’ll be replenished is probably exaggerated.
China, for example, will only resume stockpiling if prices drop further. Based on history, Beijing would wait until Brent falls below US$70 a barrel.
Restocking would provide a floor to crude prices, but well below current levels.
Don’t expect any country to significantly rebuild inventories with Brent still close to US$100 a barrel.
The longer the status quo persists, the more time Middle East nations have to build additional bypass routes around the Strait of Hormuz.
Today, those extra workarounds aren’t ready.
But by April, the United Arab Emirates hopes to begin pumping crude via its second bypass pipeline, making its exports more sustainable and freeing tanker capacity for others in the region.
All things considered, the current price of oil seems wrong.
It’s either too low because of the risks of the United States and Iran escalating the conflict, or too high because Washington and Tehran will sign a deal.
Brent trading at around US$90 a barrel is an oddity that reflects the prevailing stalemate. — Bloomberg
Javier Blas is a Bloomberg Opinion columnist covering energy and commodities. The views expressed here are the writer’s own.
