Supply and Iran: Two Reasons Oil Prices Will Rise

Why the Iranian Nuclear Deal Could Lead to an Increase in Oil Prices

by Dan Dicker - Oil Price.com

[Inside Investor has two pieces for readers this week - Dan Dicker gives his take on why the markets don't like the Iran deal and Nick Cunningham takes a look at why oil prices are bottoming out.]

Why is Brent crude rallying in the face of a new Iran nuclear deal? Two words might explain it: Saudi Arabia.

No one was more upset, save for the Israelis, by the recent agreement between the Iranians and the US than Saudi Arabia, the Iranians natural enemy in the Middle East. By the number of visits that Secretary of State John Kerry made to the Kingdom and the appearance of Saudi sovereign investor Prince AlWaleed here in the US, it was clear that the message that the Saudis were sending to the US government went unheeded: the US inked a 6-month agreement relieving much of the financial pressures built up by sanctions over the last 3 years.

Don’t be fooled by the public statements of approval delivered by the Saudis – they’re mad – hopping mad.

And what do the Saudis have as leverage to make the point of their dismay at this new agreement with a President who decided not to listen to the only two remaining allies in the Middle East? Only oil.

The Saudis have tried to deliver stability into the oil market through the many geopolitical issues that emerged in the last 6 years, filling the gaps in production caused by the Iraq shutdowns, Libyan revolution, Iranian threats of closing the Straits of Hormuz and the Egyptian Arab Spring. With total production of over 10 million barrels a day today, they control all the swing barrels of production and have literally the world price of oil in the palm of their hands. They don’t need to produce 10 million barrels and a 2 million drop in production would cause a likely 20% increase in oil prices, with a concurrent increase in gas prices as well.

Will the Saudis look to punish this US President going into midterm elections next year with a monster rise in gas prices, tethered to the price of Brent crude? Well, the Brent price of crude after the Iranian deal first dropped $2 a barrel but came storming back, now up more than $4 from the lows and trading above $111 a barrel.

Wait, what? The prospect of Iranian barrels coming on market should have brought prices DOWN, but someone believes that even the most likely release of even another 1.2m barrels a day from a revitalized Iranian oil industry over the next several months is likely to be swamped out by a removal of barrels coming from SOMEWHERE.

That somewhere might include Libya, it might include Iraq. But it most likely represents an angry Saudi Arabia, looking to use what muscle it has left to influence US foreign policy and help scuttle this 6-month Iranian trial balloon.

Was a message passed from the Saudis to the Americans that every barrel of Iranian crude likely to hit the market would be answered by a sequestering of 2 or 3 barrels of Saudi oil?

That’s the story the market is telling me right now.

Dan Dicker

As a I mentioned above we have another report prepared by one of our analysts that mirrors Dan's forecast for an increase in oil prices. I believe you will find the below analysis of great interest:

Oil Supply Outages Leave Spare Capacity Tightest Since 2008

by Nick Cunningham - Oil Price.com

There has been quite a sell-off in oil in the last few months. First, the deal between Iran and the West made front-page headlines and sparked speculation of an imminent drop in oil prices. Brent prices dropped 2.7% immediately after news of the deal broke, both on reduced geopolitical risk as well as hopes of more Iranian crude reaching global markets.

Second, U.S. oil production continues to climb. WTI prices dropped $1.31 in early trading on November 27, on news that U.S. crude inventories unexpectedly jumped by 6.5 million barrels the previous week. Hovering around $92, WTI reached a six-month low. Latest monthly data from the EIA shows that U.S. oil production reached 7.5 million bpd in August, a 37% increased from just two years earlier, and the highest rate of production since the early 1990’s. Drillers expect those numbers to continue upwards. Pundits and politicians alike are hailing this new era of energy abundance.


Bear market ahead? Don’t count on it.

Bet on oil prices rising again in the coming months for one main reason: global spare capacity is at its lowest level in five years.

Multiple oil supply disruptions around the world have combined to bring global spare capacity to its narrowest point since the fourth quarter of 2008. In particular, conflict in Libya has cut off over 1 million barrels per day (bpd) since July 2013. Other significant outages come from Iran, Iraq, and Nigeria. The drop in production contributed to the $9 per barrel increase in Brent prices in August. In total, there is currently 3 million bpd of production not reaching global markets, the highest since at least January 2011.


Saudi Arabia is the only true player in terms of spare capacity, as just about all other countries produce flat out. With Libyan production down over the summer, Saudi Arabia ratcheted up production to levels not seen in decades, reaching an eye-popping 10 million bpd. Although Saudi data is sketchy, spare capacity is currently less than half of what it was in 2010-2011, when the world experienced price spikes from the Arab Spring. It dropped to a mere 1.6 million bpd in August, and although it has recovered a bit as summer demand in Saudi Arabia dissipated, spare capacity is lower than at any time since the financial crisis.

With slack at multi-year lows, the ability of the Saudi Princes to come to the rescue in the event of another outage is questionable at best. Remember summer of ’08? The last time spare capacity was this low, prices reached record levels.


It’s unlikely that the pressure will quickly dissolve – supply side negatives abound. Last week’s Inside Investor hit on some of these issues, and I just want to add a few.

Kurdistan is ramping up production, but violence and the lack of infrastructure will prevent Iraq from reaching its full potential. Conflict in Libya is showing no sign of abating. Ditto for Nigeria. The U.S.-Iran thaw could be temporary – both sides are far apart on key issues over Iran’s nuclear program, making it unlikely that Iranian oil ramps up anytime soon. U.S. shale is surging, but the growth rates can’t keep going. Rig counts are down, and with high initial decline rates, drillers have to continuously poke new holes in the ground just to keep production flat.

What does this all mean? It means that another unforeseen outage could send prices skyward. Less dramatic, though equally important, is long-term fundamentals. Chinese demand continues its inexorable ascent. Other than U.S. shale, oil majors are struggling to find big new supplies. And if the world economy recovers in any meaningful way, look out.

In other words, the chances of further oil price declines are slight, while the upside risk is significant. And this comes when spare capacity is already at its lowest point we’ve seen in years.

Don’t buy into the notion that U.S. shale will save the world. Don’t buy into the hype around the Iran deal. And don’t buy into the absurd hypothesis (looking at you IEA) that Iraq can double its production in the coming years.

Oil prices are bottoming out. Bet on it.

Nick Cunningham