What does Iran's re-entry into the market mean for crude oil prices?
Iran currently has an estimated 30 million barrels of crude oil waiting to be unloaded onto the markets. The nuclear deal with the P5+1 will increase the global supply of crude oil. So what will this mean for oil traders?
Oil stockpiles of immense proportions
The Iranians are about to offload millions of barrels of crude oil on the international markets, but investors need not fear because the process will be a gradual one. The agreement reached between the P5+1 and Iran has brought this Middle Eastern country out of isolation and into the circle of nations trading freely on global markets.
Since Iran holds vast supplies of crude oil, its importance in the commodities market cannot be understated. Analysts believe that the country currently has approximately 30 million surplus barrels of crude oil waiting to be sold on the markets. Global oil consumption is estimated at 90 million barrels daily, of which Iran is capable of producing 2.8 million barrels per day, at present levels.
Estimates peg the timeframe for Iranian oil to hit the global markets at six months, or more. The reasoning behind this delay is that Iran must show compliance with the terms and conditions of the agreements set out by the European Union and the United States. Iranian oil is stored in oil tankers that are floating just off its coast. When the oil is offloaded onto the markets, it will create additional supply which will exert downward pressure on the oil price over the short term.
In the presence of international sanctions by the EU and the US, Iran has been exporting most of its oil to China, India, Japan, South Korea and Turkey. Exports of crude oil began decreasing with the US imposition of sanctions on the Iranian Central Bank, followed by an import ban by the European Union on shipping insurance in Iran’s oil sector.
While the country has vast resources of crude oil, Iran has yet to develop its production, drilling and infrastructure to bring the country’s oil industry in line with international standards. Daily crude oil production figures remain 800,000 barrels per day lower than they were in 2011 when they topped out at 3.6 million barrels per day.
According to industry analysts, the country has 158 billion barrels of oil (the fourth-largest supply in the world), but the lack of investment means that it will take several years to fully develop the country’s production capacity. With 30 to 37 million barrels of oil in floating storage tankers off the Iranian coast, approximately 50% of that is condensate and the other half is crude oil.
Iran will gradually come back into the international fold
With Iran re-entering the global oil markets, oil futures dropped by as much as 10%, trading lower than $57 per barrel on Tuesday 14 July 2015. Regardless of the timeframe for sanctions to be lifted, it is clear to commodities traders that the global supply will be increased and prices will come down in the short to medium term. This will also precipitate a prolonged period of consistently low prices for Brent crude and WTI crude oil. Prices in the region of $50 per barrel to $58 per barrel for both benchmarks are anticipated.
Typically commodities prices will surge on the back of excess demand but, with the current oil glut, the world is awash with black gold. In terms of a timeline, work in Iran will only begin at the end of October, and from that point it will take several months for changes to the Iranian nuclear programme to be implemented. The Iranians will have to comply with the T&C of the international agreements in place with the P5+1. As snap-back sanctions are part of the process, international oil companies will be loath to invest heavily without reassurances that Iran is complying with all tenets of the agreement.
Since Iran is an OPEC member country, Saudi Arabia will need to make accommodation for this country’s return to the oil markets. In other words, Saudi Arabia will need to reduce its market share. This is a tough situation since the two countries are arch-enemies. Presently, Iran’s exports are hovering around 1.1 million barrels per day – approximately 50% of their level pre-sanctions. Over the short term, pressure will come to bear on the price of oil especially during the autumn months when oil refiners typically undertake maintenance.
The countries with the most proven crude oil reserves as of 2014 include the following: Venezuela (close to 300 billion barrels), Saudi Arabia (260 billion barrels), Canada (170 billion barrels), Iran (160 billion barrels), and Iraq (140 billion barrels). Iranian supply will top out at 800,000 barrels per day within a year after sanctions have been lifted. In order for this to happen though, substantial investment in the development of the country’s oil fields and infrastructure needs to take place. This could push back Iran’s full re-entry into the global oil markets to 2017.
In order for the Iranians to bump up their production, they are requiring an estimated $100 billion in foreign direct investment to boost their oil production facilities to pre-sanction levels. And since compliance with nuclear inspectors in the International Atomic Energy Agency is a requirement, there is reluctance on the part of foreign investors to drop anchor in Iran.
Presently, a 60-day review of the nuclear accord with Iran is taking place in the US Congress, and Congress has the authority (two thirds required) to re-implement sanctions irrespective of a presidential veto. If that happens, foreign companies will lose capital and FDI in Iran.
Implications of Iranian crude for WTI
More oil on the global markets translates into lower prices for producers and consumers. This will lead to a shuttering of many more US crude oil facilities, a loss of jobs and a decrease in the supply. Ultimately the price of crude oil will rise, all things being equal.
There is the possibility that the increased oil supply will lead to greater efficiency in US drilling rigs in Texas and North Dakota. By lowering the costs of production, the US will be able to compete with OPEC and other oil-rich countries. However you should remember that the possibility of the re-entry of Iran has already been factored into the oil markets and that is why the price has not fluctuated as much as one might expect.
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