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War Between Saudi Arabia And Iran Could Send Oil Prices To $250

War Between Saudi Arabia And Iran Could Send Oil Prices To $250

The rift between Saudi Arabia and Iran has quickly ballooned into the worst conflict in decades between the two countries.

The back-and-forth escalation quickly turned the simmering tension into an overt struggle for power in the Middle East. First, the execution of a prominent Shiite cleric prompted protestors to set fire to the Saudi embassy in Tehran. Saudi Arabia cut off diplomatic relations and kicked out Iranian diplomatic personnel. Tehran banned Saudi goods from entering Iran. Worst of all, Iran blames Saudi Arabia for an airstrike that landed near its embassy in Yemen.

Saudi Arabia’s Sunni allies in the Arabian Peninsula largely followed suit by downgrading diplomatic ties with Iran. However, recognizing the dire implications of a major conflict in the region, most of Saudi Arabia’s Gulf State allies did not go as far as to entirely sever diplomatic relations, as Saudi Arabia did. Bahrain, the one nation most closely allied with Riyadh, was the only one to take such a step. Related: $20 Oil Is Now A Distinct Possibility As Chinese Demand Wanes

Many of them are concerned about a descent to further instability. Nations like Kuwait and Qatar have trade links with Iran, plus Shiite populations of their own. Crucially, Qatar also shares a maritime border with Iran as well as access to massive natural gas reserves in the Persian Gulf. These countries are trying to split the difference between the two belligerent nations in the Middle East. "The Saudis are on the phone lobbying countries very hard to break off ties with Iran but most Gulf states are trying to find some common ground," a diplomat from an Arab country told Reuters. "The problem is, common ground between everyone in this region is shrinking."

The effect from the brewing conflict on oil is murky, but for now it is not having a bullish impact. In the past, geopolitical tension in the Middle East, especially involving large oil producers, would add a few dollars to the price of oil. This risk premium captured the possibility of a supply disruption into the price of a barrel of crude. However, recent events barely registered in oil trading. That is because the global glut in oil supplies loom larger than any potential for a supply disruption. Oil dropped to nearly $30 per barrel on January 12 and oil speculators are not paying any attention to the tension in the Middle East.

Also, the conflict could simply manifest itself in an intensified battle for oil market share. Iran has put forth aggressive goals to ramp up oil production in the near-term. And Saudi Arabia continues to produce well in excess of 10 million barrels per day while discounting its crude in several key markets, particularly in Europe in order to box out Iran. Related: Crashing Oil Prices And Dropping Rig Count Take Their Toll On U.S. Output

But what if the current “Cold War” between Saudi Arabia and Iran turned hot?

Saudi Arabia has a variety of reasons to not back down, not the least of which is the very real sense of being besieged on multiple fronts. An article in The New Statesman by former British Ambassador to Saudi Arabia, John Jenkins, clearly laid out the threats that Saudi Arabia sees around every corner: extremists at home; a growing Iran; toppled allies from the Arab Spring; low oil prices; and a fractured relationship with the United States. The nuclear deal between Iran and the West was confirmation on the feeling in Riyadh that it is becoming increasingly insecure.

Already the two rivals have engaged in proxy battles in Yemen and Syria, supporting opposite sides in those wars. A full on direct military confrontation would be something entirely different, however. It would have catastrophic consequences for oil markets, even when taking into account the current supply overhang. Dr. Hossein Askari, a professor at The George Washington University, told Oil & Gas 360 that a war between the two countries could lead to supply disruptions, with predictable impacts on prices. Related: Rig Count: Capitulation?

“If there is a war confronting Iran and Saudi Arabia, oil could overnight go to above $250, but decline [back] down to the $100 level,” said Askari. “If they attack each other’s loading facilities, then we could see oil spike to over $500 and stay around there for some time depending on the extent of the damage.”

While not impossible, war is speculative at this point. Also, $250 and $500 per barrel are numbers pulled out of thin air, and may seem a bit sensationalist. But despite the glut in global oil production – somewhere around 1 mb/d – the margin from excess to shortage is thinner than most people think. OPEC is producing flat out and spare capacity is actually remarkably low right now. The EIA estimated that OPEC spare capacity stood at just 1.25 mb/d in the third quarter of 2015, the lowest level since 2008.

As a result, even though it remains a remote possibility, direct military confrontation between Saudi Arabia and Iran could well put oil back into triple-digit territory in short order.

By James Stafford of Oilprice.com

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Leave a comment
  • bradley on January 12 2016 said:
    Just think what it could do for jobs in the United States in the oil patch and other areas that would receive income from the oil patch
  • JKN on January 13 2016 said:
    Oil could go to $1,000 if Iran launched nukes at Russa, Saudi Arabia, and USA....Buy while you can!
  • Jwells on January 13 2016 said:
    Bradley I totally agree. It is time for us to stop relying on foreign oil. We need good jobs for us here.
  • Kafantaris on January 13 2016 said:
    Again and again it's Saudi Arabia -- not Iran -- that proves to be the fountainhead of fanaticism.
  • Norman on January 13 2016 said:
    Oil at $30 or lower puts multiple countries in the soup line whereas a 5% cut in production allows them to go on with their business. Both Saudi Arabia and Russia are losing $250 billion per year vs what they get at $100. Russia has to do something. Either capitulate to SA and cut production or bomb the beejeebeezes out of the SA oil fields. The Russians are in Syria ready to do such a thing and they know Obama will do nothing and the rest of the world will stand by also. Iran of course can join the fray. Oil at $30 is a Reductio Ad Absurdum and thus will not last.
  • Miguel on January 13 2016 said:
    If this happens then everyone buys a Tesla and then the prices go back to 1 dollar.
  • Ikram on January 13 2016 said:
    If these two countries are at war. the oil price is no longer important as the world war will follow.
  • Shawn on January 25 2016 said:
    Saudi needs to be put into there place. Its crazy that they have this much power to manipulate the price.
  • jim on November 04 2016 said:
    wow!
    how one could be wrong in about a year...!

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