The recent gains in WTI and Brent were a treat for investors and a boon for oil bulls. The original catalyst for this most recent rally was a bullish inventory report, with the EIA announcing that inventories at Cushing, Oklahoma, had declined by 5.8 million barrels. A larger than expected drop of 600,000 bpd in Iranian exports helped to drive prices higher still. Finally, the maiden speech of the Fed’s new chairman, Jay Powell, served to weaken the dollar and send oil prices upwards once again.
But these factors alone are not enough to create a sustainable oil rally, especially with the escalating trade war between China and the U.S. threatening demand and the dollar set to strengthen in September. The wild card in all of this is the total impact of U.S. sanctions on Iranian crude flows.
Fereydoun Barkeshli, President of both the Vienna Energy Research Group and the Iranian Association for Energy Economists has questioned the sustainability of today’s oil price rally. He says that with oil prices at a two-month high “the proposed release of SPR by Trump in October and the decision by OPEC to increase production will play with the sentiment in the months to come.” In Barkeshli’s view “the response from Iran will now determine the future course of oil prices. If Mr. Trump avoids policies that will cause panic in markets it is unlikely that prices will reach $80 a barrel”.
In today’s bullish environment, analysts appear to be overlooking the growing threat that the U.S.-China trade war poses to oil markets. On the 6th of September, the public comment period on the next round of sanctions will close, and Trump appears eager to implement $200 billion of tariffs on China after that deadline. The U.S. president’s latest comment suggested that he was ready to not only implement $200 billion of tariffs but also to leave the WTO if “they don’t shape up”.
Another overarching factor in the direction of oil prices is the strength of dollar. While Powell’s speech did drive the dollar down, opinions on the tone of his speech were varied. He has opted for a cautious path forward and called for a gradual rate hike. A recent memo, published by Robert Tetlow, highlighted the importance of a low unemployment rate on the economy even when inflation isn’t soaring. With this in mind, the possibility of an aggressive interest rate policy still very much exists. Investors and market observers generally agree that interest rates will be raised when the Fed meets in September 2018, the fact that this hike is already factored in means that the dollar and oil prices are unlikely to see significant movement. In the meantime, the escalation of the U.S.-China trade war is certainly going to weigh on prices this month.
In other news, Iraq is planning to increase its exports as it aims to take advantage of Iran’s falling production. S&P suggested that the September 11th OPEC meeting may well spark an increase in production from Iraq and possibly even its fellow members if Iran continues to struggle. This increasing production would help allay fears of a tightening global market and reduce the bullishness in markets.
Iranian production is arguably the single most important catalyst for oil prices in the coming months, but with fear of collapsing output so high, markets may be overestimating just how bullish sanctions on Iran will be. There are several loopholes that Iran will look to use in order to dampen the effect of the sanctions on its production and the broader oil markets. Firstly, two types of condensate, Lease and Plant, are defined by the U.S. as “petroleum products” as opposed to crude oil and so can be sold by Iran without the country breaking any sanctions. Iran is also likely to use any means at its disposal, as it did during the last sanctions, to ensure it is able to export its oil. The fact that these sanctions are largely unilateral means that Tehran is likely to have more luck this time with undermining U.S. efforts.
While investors are currently enjoying the bullish wave in oil markets, it is important to keep an eye on the bearish flashpoints hanging over markets this September.
By Osama Rizvi for Oilprice.com
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