The Fuse

Tepid Response to Persian Gulf Instability Highlights—and Masks—Bigger Problems

by Alex Adams | @alexjhadams | July 29, 2019

Despite a tense few months in the Persian Gulf, starting with attacks on vessels in May and escalating to downed drones, spy arrest reports and oil tanker seizures in July, the oil market has remained resolutely unconcerned. From the first signs of trouble on May 12 when two oil industry tankers were attacked, to Iranian forces seizing a UK-flagged ship on July 19, the U.S. crude benchmark price has actually fallen.

Media reports have been quick to compare these incidents to the 1980s’ tanker war, in which 239 petroleum tankers were hit and 55 sunk. Although current tensions are significantly lower than during the tanker war, analysts have suggested the market’s lack of reaction to the recent escalation of hostilities and growing war of words means the current threat to the energy industry is “incredibly under-appreciated” by oil markets.

While traders are more preoccupied about flagging oil demand as the global economy slows, they would be wise to pay closer tension to events around the Strait of Hormuz. As the Trump administration exerts ever-greater pressure on Iran’s oil exports—the lifeblood of the country’s economy—Tehran has responded by taking steps violating the terms of the nuclear deal. On July 1, the Iranian government announced its stockpiles of enriched low-grade uranium have exceeded the 300-kilogram limit agreed under the 2015 accord.

With Iranian oil consumers prioritizing access to U.S. financial markets over importing Iranian oil, it is likely Tehran will take ever more extreme measures to find relief from sanctions—although the White House has shown little inclination to budge from its position. As analyst Dan Eberhart notes in Forbes, “The most likely outcome in the near term is the continuation of the current stalemate, with Iran continuing to harass Gulf energy infrastructure as its only recourse against sanctions. Such incidents provide some support to oil prices in the current down market and allow Iran to generate higher revenues for the little amount of oil it manages to sell.”

The longer term, Eberhart writes, could bring much larger problems for energy infrastructure in the region: Amid a diverse array of concerns, Houthi attacks on Saudi oil facilities could continue, and the potential for disruption of Iraqi supply may grow.

Yet any cheer the administration may be feeling from the oil market’s indifference to its more aggressive stance on Iran masks a larger issue that should spark some concern. The reaction, or lack thereof, shows that traders are far more concerned about weak demand than they are about escalating tensions in the Persian Gulf.

Recent Energy Information Administration figures show that the United States will become a net exporter of crude and liquid fuel in the fourth quarter of this year. Average daily production is seen rising to 12.4 million barrels in 2019 from last year’s record 11 million barrels a day—a growth in U.S. supply which, according to Spencer Jakab in the Wall Street Journal, “will exceed global demand growth.” Theorizing that the current administration’s tough talk on trade is dampening global demand, Jakab adds that “the fear of a trade war is outweighing fear of a shooting war.”

Although dampened global demand has mitigated the market’s reaction to events in the Persian Gulf, such optimism that the energy-rich region is not heading for a return to circumstances reminiscent of the worst days of the tanker war may be misplaced.