No means no, but not no oil
OPEC spare capacity heading down to 1 mmb/d – Brent heading up to $80/bbl
The “price bearish” headlines to expect from the US and Saudi Arabia
OPEC+ to reverse the 800 kb/d reversal
No means no, but not no oil :
On Monday, a US press release stated that there would be no extensions to current waivers on US sanctions on Iran. The news is an extremely hard line from the US, and the approach is more aggressive than we had expected, especially given the recent increase in crude prices to above $70/bbl. Unsurprisingly, the market took Monday’s headlines as very bullish, with ICE Brent front month futures rising $2/bbl yesterday and now trading around $74/bbl today.
Taking this at face value, zero waivers means some 1.1-1.3 mmb/d of crude and condensate off the market within weeks. The oil market may take this as being even more aggressive given tanker trackers had estimated Iran crude/condensate exports were some 1.7 mmb/d in April. However, we believe tanker tracking data is double counting exports between some Iranian ports.
Some countries that had been issued waivers had already halted buying Iranian crude in April. They anticipated that they would not have waivers extended and wanted to avoid any chance of Iranian barrels arriving outside of the waiver period (see Flash Alert-Iran’s oil exports set for a drop as May US sanctions waivers deadline looms - 18 April 2019). However, loadings for buyers in India, China, Turkey, to name but a few, have continued.
Overall loadings of Iran crude this month have been low at around 1 mmb/d, with only 700 kb/d given any firm destination.
However, whilst the US has said it is not going to extend any waivers, we do not believe this means no Iranian oil exports.
1. Iran is not going to roll over and accept this.
2. Neither will China, and it could continue to use this as a bargaining tool for US/China trade talks.
3. Iran will still get some oil out and we see some 200-300 kb/d of rebranded oil smuggled out on land via Iraq, Pakistan and perhaps Turkey.
4. Now that there are no waivers, in China we are likely to only see Zhenrong lifting Iranian oil, but this could still be some 250 kb/d.
5. As a result a total of 400-500 kb/d of crude/condensate will continue to be exported.
Our previous assumptions were that whilst some of the initial 1.1-1.3 mmb/d of waivers would be cancelled following the initial period, around 800 kb/d of waivers would persist.
The new tougher stance from the US implies that exports will likely be some 300-400 kb/d lower than we previously expected. Product exports (although supposedly sanctions), mainly in the form of fuel oil are expected to continue as they are. See below.
With 2Q and 3Q already looking to be relatively tight for oil markets (see FGE WOMR Global Oil Market Drivers), the loss of a further 300-400 kb/d of Iranian crude & condensate makes the supply/demand balance look more bullish.
OPEC spare capacity heading down to 1 mmb/d – Brent heading up to $80/bbl :
Given the tighter stance from the US on Iran sanctions, our balances now show the need for OPEC+ to raise output by some 1.2-1.4 mmb/d in 3Q vs March/April levels in order to avoid heavy stock draws. This will take OPEC spare capacity down to 1 mmb/d (perhaps lower) by end 3Q 2019. Long dated crude prices will push higher as risk is priced in. The tail of the ICE Brent futures curve will move up towards $70/bbl. At the front, ICE Brent will push up towards $80/bbl.
Long Dated Crude Prices vs OPEC Spare Capacit
The price response so far in unsurprising but there is still at least another $5/bbl to go.
The “price bearish” headlines to expect from the US and Saudi Arabia :
In May 2018, when President Trump announced sanctions on Iran, it was certainly not done without prior understanding that the Saudi’s and other OPEC members would increase production. At the following June 2018 OPEC meeting, the group announced it would raise output by some 1 mmb/d.
This time round, it is no secret that the US has been in cahoots with the Saudi’s and the UAE ahead of this announcement. Whilst we see the need for OPEC+ to raise output by some 1.2-1.4 mmb/d, part of this increase can be done immediately, as the Saudi’s are producing below their current target level. We expect Saudi Arabia, producing around 9.9 mmb/d currently, will most likely add around 400 kb/d to the market in May/June, bringing its production up to its target level. The UAE may add some volume too in the short term. This is likely to be announced in the coming days or weeks, partly as a measure to limit crude price increases in the immediate short term. At the same time, the US may have a few tricks up its own sleeve to keep a lid on prices.
In 2018, when Trump was seen to be driving oil prices high with sanctions on Iran, he was then seen as adding downwards pressure to prices by escalating the US/China trade wars and placing concern over global oil demand growth. US/China trade talks could once again prove a very useful tool for Trump to bring bearish sentiment (perhaps even fundamentals) to the market to keep a lid on prices. The US could also release more SPR to the market too.
OPEC+ to reverse the 800 kb/d reversal :
With Saudi Arabia back up to their target production level, this will the leave OPEC+ needing to raise output by a further 0.8-1 mmb/d to maintain a balanced market; coincidently this is the same volume that the group pledged to cut in December 2018.
As OPEC+ revert back to previous targets, and with many of the wildcards such as US/China trade wars still in play, the outlook is fast becoming a repeat of 2018. However, we have two very big differences in 2019 vs 2018.
1. US tight oil is not expected to be as price responsive. We are in fact looking at downwards revisions to EIA STEO projections, not upwards revisions (see FGE WOMR Crude Trade Supply and Diffs 18th April).
2. IMO 2020 will boost to crude demand in 4Q as refiners’ race to ready themselves for the start of the new bunker regulations.
Whilst the need is now very apparent for OPEC+ to take action and increase production, the overall story is only 200-400 kb/d different from the one we had been previously telling. However, the details are now perhaps getting a little clearer.
US sanctions were also meant to target product exports. However so far, around 150 kb/d of fuel oil exports have continued to flow. The majority of these volumes have been heading to Fujairah as well as Singapore. The US is aware of illicit fuel oil trading and is watching it closely, but we do not think action will be taken and instead the US will most likely turn a blind eye to the situation - for now.
The volumes that have been making their way to market were above previous expectations, and have weighed on the market as a result. These volumes will continue, but the market has this priced in already.
Therefore, whilst the crude market may be a little tighter, the fuel oil market is looking less tight than last time.
With further pressure being placed on Iran, the likelihood of the country rolling over and doing nothing is fading. Iran has threatened to take action by disrupting the security of the Straits of Hormuz in the past, however the chance of real action may now be higher than the market is anticipating. We are also now some 200-400 kb/d closer to a very unstable situation in the Middle East.
Whilst there are many parallels to 2018, there are many differences too. Therefore, whilst price action may look very similar to last year’s as we move through 3Q 2019, and even with some downside pressure emerging in 4Q, we do not expect to see such a large downwards correction at year-end, as was seen at end 2018.
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