Will Middle East supply disruption drive oil prices higher?

Oil prices have started to gain this week but supply disruptions from the Middle East may lead to “significant” increase in prices despite demand concerns currently outweighing supply worries, according to analysts.

Benchmark Brent rose 0.3 percent to $64 a barrel, while WTI gained 0.4 percent to $57.01 on Wednesday morning.  

“Ongoing trade war between the US and China has already prompted demand-side concerns for oil. Supply disruptions from the Middle East will be a double whammy because this can significantly increase oil prices, thereby resulting in the ‘destruction’ of demand,” Abhishek Kumar, Head of Analytics at Interfax Energy in London, told Argaam.

Rising geopolitical tensions in the Middle East are a worry for oil supplies, and any development that blocks the transit through the Strait of Hormuz will be bullish for oil prices, he added.

The Strait of Hormuz accounts for almost 20 percent of global oil supply, and around a quarter of the world’s LNG trade. Six oil tankers and a US drone have been attacked since May in or close to the Strait. A temporary closure will impact Asian consumers such as China, India, Japan and South Korea.

On Tuesday, the International Energy Agency (IEA) said it is closely monitoring developments in the Strait of Hormuz, including the recent seizure of a UK-flagged oil tanker by Iran. It reassured consumers stating the oil market is currently well supplied, with oil production exceeding demand in the first half of 2019, pushing up global stocks by 900,000 barrels per day.

“The IEA monitoring developments in the Strait of Hormuz is a welcome move,” Kumar said, but “it won’t be enough to shield consumers from the price shock if flows through the Strait come to a halt.”

Furthermore, Iran’s escalating tensions with the US and the UK have implications for the security of oil supply from the Middle East.

“The tensions will be a source of oil-price volatility in the near term, but also have the potential to structurally change price dynamics in the longer term by skewing fundamentals,” Kumar said.

The Bank of America-Merrill Lynch said in a report that rising geopolitical tensions with Iran or increased trade friction with China could create up and downside risks to prices. However, it added that the unexpected start of US-Iran talks or a US-China trade deal would have the opposite effect on oil prices. 

“In the absence of these binary risks materializing, Brent could continue to trade in a $60 to $67 per barrel range,” the bank said. 

Last week, the IEA executive director Fatih Birol told Reuters that it is revising its 2019 global oil demand growth forecast to 1.1 million barrels per day (mbd) and may cut it again if the global economy slows down. 

“While we await the full breakdown of the demand profile, growth of just 1.1 mbd represents the slowest pace of demand growth since 2014 — when Brent futures averaged close to $100 per barrel — and will likely lead us to revise our market balances for H2 into considerable inventory builds,” Edward Bell, commodity analyst, Emirates NBD, said in a report.

Write to Parag Deulgaonkar at parag.d@argaamplus.com