A very real and genuine supply issue and elevated geopolitical temperature led to a rise in anxiety level amongst investors as the week kicked off and helped oil prices rally with Brent finishing the day $2.26/bbl higher. It is not entirely clear whether yesterday’s forces at work will be able to provide protracted price support, but the closure of a significant North Sea oil field coupled with a policy U-turn by the US administration were more than sufficient to force bears to cover their positions. A power outage at an onshore electricity converter station at Norway’s Johan Sverdrup development forced its operator, Equinor, to halt output on the whole oil field. Given that the field’s production is well above 700,000 bpd, the unplanned shut down understandably led to a considerable jump in prices.

Joe Biden’s decision to allow Ukraine to use American missiles to strike Russian targets two months before leaving office and one day after Russia launched its most severe air attacks against Ukrainian critical infrastructures qualifies as a major, but maybe not so unexpected, change in US policy. The belligerent Russian reply, which labelled the move reckless does not come as a surprise but the deafening silence from Donald Trump, who promised to end the war in one day, does. One would have thought that the wholehearted admirer of strongman Putin would have rushed to reassure the Russian president of overcoming the move. And even if he does so straight after taking office, the damage Ukraine could inflict on Russian energy installations in the next few weeks might turn out substantial. The Norwegian oil field will resume operation at one point, and it is ambiguous how Ukraine will react to the US greenlight, but yesterday’s price jump was undeniably justified by the latest developments. Yet, it is worthwhile noting that the crude oil structures have failed to share the enthusiasm of flat price. The more than $2/bbl ascent in outright prices was coupled with a feeble 3 cents/bbl widening of the front Brent backwardation whilst the expiring December WTI contract settled 1 cent/bbl under the second month.

How Will ‘Maximum Pressure’ Play Out?

Although, it is still several weeks away that U-Haul trucks will start their journey from Mar-a-Lago in Florida to Pennsylvania Avenue in Washington D.C., the fact that the next dweller of the White House is called Donald Trump has already precipitated palpable change on the geopolitical stage. It is no coincidence that less than two weeks after the Republican victory, Russia launched its biggest attacks on critical Ukrainian infrastructures. The incumbent US president, Joe Biden, is unlikely to have allowed Ukraine to use American long-range missiles to strike deep inside Russia if Kamala Harris had won the election. A few thousand miles south, Israel feels more emboldened than ever to up the ante against Lebanon, and the Palestinians in Gaza.

Iran has put on a brave face at the outcome of the US election, although the Persian Gulf OPEC producer is fully aware that the US approach against them will be markedly different from the Biden administration’s relatively lenient treatment. As reported by the Financial Times, sources close to the incoming administration believe that Team Trump plans to re-implement its ‘maximum pressure’ policy on Iran and to ‘bankrupt’ the regime’s ability to fund regional proxies, such as Hamas or Hezbollah and severely constrain the country’s nuclear programme.
On top of the sanction list will be Iranian crude oil exports. The playbook will be similar to the one experienced during the first Trump presidency. One of Donald Trump’s campaign promises in 2015 was to withdraw the US from the Iranian nuclear deal that was struck under his predecessor, Barack Obama. He remained true to his pledge and on May 8, 2018, the United States announced it was leaving the Joint Comprehensive Plan of Action (JCPOA). Iran’s oil production, which was as high as 3.8 mbpd in the first half of 2018 fell to 1.9 mbpd by the end of the first Trump presidency only to recover to 3.3 mbpd by last month.

It is, therefore, tempting to look at the price impact of the souring of the Iran-US relationships six years ago to gauge the effect of the potentially renewed US sanctions. Doubtless, Donald Trump’s view on Iran played its role in sending the price of Brent from under $45/bbl in June 2017 to above $85/bbl by October 2018. Nonetheless, the political and economic environment was significantly different from today.

To begin with, the world was a much more peaceful place 6 years ago. A war between Russia and Ukraine was unimaginable and the Israel lived in relative peace with its regional foes. It might imply that a loss of 1.5 mbpd of Iranian production or around 1 mbpd of export would disproportionately increase the risk premium this time around. Yet, note that the global oil balance is seen as lax now. The IEA foresees a supply excess in the region of 1 mbpd for 2025. Global and OECD oil inventories are expected to build. In other words, the oil market is in a comfortable position to mitigate the impact of losing 1-1.5 mbpd of output.

Perhaps most importantly, OPEC’s spare capacity is much more reassuring now than in 2018. Take Saudi Arabia, for example. The Kingdom pumped as much as 11 mbpd in November 2018, close to full capacity, which is comparatively higher than its current production level of 9 mbpd. It is absolutely feasible that in the event of a price rally and in case US retail gasoline prices approach the $4/gallon milestone, the US president, in all likelihood, will pressure OPEC to increase production and/or cut some slack to Venezuela to make up at least part of the shortfall originating from Iran.

All signs point to a muted price impact of the US renewed ‘maximum pressure’ policy towards Iran. There is one trump (what a fitting word) card, Iran holds, though. The official Iranian narrative is that the door is open to talks with the incoming US president. Yet, Iran will not forget that it was Donald Trump who ordered the assassination of the top commander of the Revolutionary Guards during his first term and if the US chooses the path of sanctions and coercion once again to rein in Iran’s regional and nuclear ambitions, retaliation might come in the form of obstructing traffic via the Strait of Hormuz, something that is not the base case scenario but cannot be ruled out either.

Overnight Pricing