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Michael McDonald

Michael McDonald

Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance…

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Scuttled Iran Nuclear Deal Could Be Catalyst For Oil Price Rebound

Scuttled Iran Nuclear Deal Could Be Catalyst For Oil Price Rebound

With oil prices plumbing multiyear lows, it’s not clear how much more downside could be left in the commodity. At the same time, sentiment on black gold is terrible, with every day last week bringing another dour piece of news for oil from slowing China growth to rising rig counts. What the market needs in order to start to turn higher is a catalyst. The Iranian Nuclear deal could be that catalyst.

Opposition to the Iranian deal has been intense in the last few weeks. While it is not clear that opponents can muster enough support to create a veto-proof blocking of the resolution on the deal, there is clearly significant opposition. All 54 Republican Senators have vowed to block the deal as have two Democrats so far. A little more than 20 Democrats remain undecided, so the vote is very much up in the air. If the vote goes against the President, oil could spike 10 percent overnight in anticipation of Iranian sanctions remaining in place. Related: Why Water Is More Important To Iran’s Future Than Oil

Adding to the drama, the Associated Press published a report earlier last week indicating that under the deal, Iran will be permitted to use its own investigators to inspect the controversial Parchin site. Parchin has been tied to nuclear weapons testing more firmly than any other Iranian site. The article was originally thought to be a big blow to the Obama administration, but the article was quickly criticized for inaccuracies. There have been reports that the AP’s investigation was flawed and based on false documents, so the fallout could be limited.

The broader point is that the Iranian deal is very controversial and any number of possible revelations could cause the agreement to unravel. Other revelations from Israel, Saudi Arabia, and other regional powers could both be enough to sink an agreement. For instance, if Saudi Arabia or Israel were to come out and make a drastic pronouncement related to creating high profile nuclear weapons programs of their own if the deal goes through, then it would almost certainly cause a lot of discomfort and rethinking in Washington. Related: Oil Price Collapse Triggers Currency Crisis In Emerging Markets

Of course, it’s not clear even if the deal does go through how long it would take before Iran could begin exporting oil again, but the issue here is sentiment rather than facts. There are no substantial Iranian oil exports today and there won’t be next week or even next month. But the markets are looking at slowing growth and stubbornly high production and panicking. That panic has driven prices lower and a scuttled Iranian deal could lead to a renewed level of sanity in the markets.

It is likely to be late 2015 or even 2016 before Iran could meet the conditions needed to allow it to begin exporting oil again, and the effect of those exports might now be as bad as some fear. Related: This JV Could Trigger A Shale Boom In An Unexpected Venue

The world is currently producing about 2 million barrels of oil per day more than it needs. Iran produced about 1.4 million barrels per day in 2014 compared to 2.6 million barrels per day in 2011. That level of increase would take a while to come online though – perhaps as much as a year – and so it’s quite possible that demand would have started to rebound by the time Iranian crude is ready to ship. Given this, even if the Iranian deal does go through, investors may find that the bark surrounding the Iran nuclear sanctions relief was worse than the bite.

By Michael McDonald of Oilprice.com

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  • Ian on August 25 2015 said:
    I'm not sure this thesis holds water. Even if the US Senate blocks the deal, the rest of the world has already signed on, so Iran will have a much more open markets in any case, won't it?
  • Bud on August 25 2015 said:
    Dr.,

    I know your smart, as they don't hand out that credential to people who cannot figure multi variable calculus with a pencil and a dime store calculator, so what is it with all the half backed analysis?

    The Iran deal is done because China and Russia won't work with us any longer, we are in a flat out economic war right now. Moreover, Iran already produces nearly 2.8 million bad as per EIA, so it is not material that the will increase by .5-.7 Mbpd by 2017 when the world will lose about 5 Mbpd in natural depletion, over that same time span, without any immediate shut in from frackers and off shore included.

    Almost the entire supply glut can be accounted for by the increased saudi supply just in the past 9 months, about 1.5 Mbpd over their stated OPEC quota. The real focus should be on accounting, I assume an expertise of yours, and what happens when RBC, BMO, Morgan and Wells have to drastically drop price decks on collateralized loans to frackers. The banks don't want to push over leveraged frackers into Chap 11, but if the reign back lines of credit and hold firm on covenants a lot of these firms will have to stop drilling similar to the Magnum Hunter scenario. We are on pace for the SEC pv10 oil price to go from 95 to 50 dollars Dec. to Dec.

    Clearly this is what the GCC war rooms are looking at. The interesting questions should fall in your bailiwick, frackers capital structure, sunk costs, will banks treat these low risk, multilayered drilling stacks in west texas, Oklahoma and West Virginia as undervalued long term assets where current pricing needs to be ignored, just as we did with real estate in the last crisis? Now that would be a worthy undertaking..
  • Chico on August 25 2015 said:
    I agree that rejection of the Iran deal by the Congress with a veto-proof majority could be the catalyst for an oil price rebound, but not for the reasons stated.

    As the commenters before me stated, this is a done deal with Europe, Russia, and China, so the effect of a US rejection on the market should be minimal, if we are only talking about the market.

    However, rejection of the deal by Congress would set the US on a path towards bombing Iran, or allowing Israel to bomb Iran. Bombing Iran would then require an effort at "regime change" in order to nullify the Iranians' then (understandibly) going full out to build a nuclear weapon in self-defense.

    That would obviously have an effect on the oil market, as not only would Iranian capacity be affected. The Iranians would possibly respond in other ways (closing the Straits of Hormuz, attacks on GCC countries with missiles). If the Russians and Chinese weighed in with the Iranians, global war could result.

    Is it worth World War III to get oil prices back above $100?

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