The recent attack on the Abqaiq oil refinery saw Brent prices jump 20 percent in a matter of minutes, the largest spike in oil prices since 1982. Ultimately, the sharp increase proved to be temporary as oil dropped 6 percent on the back of reassurances from Aramco’s CEO that supply would return. Prices then continued to slide as concerns over world economic growth and long-term oversupply kicked in. The pattern of geopolitical price spikes followed by a continued slide has repeated itself since then and we can expect that trend to continue in the coming year.
The Middle East’s unpredictable diplomatic-security conditions will continue to play off against the economic impact of various trade wars around the globe.
Ever since William d’Arcy’s discovery of oil in the Middle East in 1908, the region has always held significant geopolitical value. That value, as well as several historical variables, has been central to the instability and conflict in the region. There are two dimensions to these conflicts: internal and external. In particular, the tensions between Saudi Arabia and Iran have been a constant driver of conflict in the region – tensions that are once again flaring today. The region is also home to two of the most important straits and more than 60 percent of world oil reserves. The quantity of oil and level of instability in this region makes it easily the most important geopolitical factor for oil analysts and traders to study. Related: EIA Sharply Cuts Oil Price Forecast
While it is very difficult to predict the course of events in the Middle East, the New Iran Deal remains the most pressing issue. Until or unless the Trump administration and its European allies are able to forge a new settlement, the likelihood of an escalation in the region will remain high. While European countries are trying to form a Special Purpose Vehicle to avoid U.S. sanctions and continue purchasing oil from Iran, sanctions are undeniably having an effect though with exports from the country continuing to drop. While the chances of an all-out war remain slim, the recent spike in incidents between Saudi Arabia and Iran as well as the Turkish invasion of Syria show that the geopolitical risk factor in the Middle East is very much alive and kicking for oil markets.
The second overarching factor that will continue to influence oil prices is the economic impact of trade wars. There are three separate trade wars that are currently threating global oil demand – the first between the U.S. and China, the second between South Korea and Japan and, more recently, the transatlantic one between Europe and U.S. While these trade wars may not directly impact oil prices, the integrated nature of the global economy means that a weak global economy has a well-established relationship to weaker oil demand.
Currently, each of these trade wars appear to be at an impasse and have analysts believing that long-term oil demand is set to suffer. The World Trade Organization has recently revised down trade volumes for this year to 1.2 percent from 2.6 percent predicted in April 2019. Estimates for global economic growth were also slashed from 2.6 percent to 2.3 percent. Manufacturing activity in Germany, the U.S. and China has seen a considerable decline. The Institute of Supply Management’s purchasing manager index (PMI) in the U.S. dropped to 47.8 percent, the lowest since 2009. Auto-makers, meanwhile, have been experiencing double-digit declines. Related: Is The U.S. Gas Boom Already Over?
According to Mr. Mark Rossano, CEO and founder of C6 Capital Holdings, “the geopolitical landscape is very fluid at the moment with issues ranging from BREXIT to Middle East upheaval to the U.S/ China trade war and the little talked about South Korea/Japan trade war. The current political upheaval in the Middle East (outside of KSA) remains regional and sporadic that won’t have a lasting impact on supply at the moment. This is why demand is a big focal point, because even if the trade wars go away tomorrow— the bigger issue of economic slowdown outweighs any benefits. This being said, the Iran situation will continue to impact oil pricing. The current sanctions aren’t going away anytime soon as President Trump wants to appear tough on trade. Finally, The growing divide between Iran and Saudi Arabia will continue to expand, and will result in additional attacks on both a military and economic level.”
As long as geopolitical factors and trade war factors are counterbalancing one another, traders and analysts should be hyper-focused on developments in the Middle East and trade talk developments. Amidst the noise of inventory reports, rig counts and other seasonal, ephemeral factors, the long-term trend for oil prices will likely be downward alongside the global economy until a geopolitical flare-up in the Middle East threatens otherwise.
By Osama Rizvi for Oilprice.com
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