Market braces for Middle East oil supply shock | OilPrice.com

Oil markets are on edge after tensions flared between Israel and Iran this week. Fears of an all-out war and real disruptions to oil supplies from the Middle East intensified, driving oil prices higher.

As the world awaits Israel's response to Iran's missile attack on Israel earlier this week, reports suggest that Israel may target some of Iran's energy and oil infrastructure.

Unlike similar geopolitical flare-ups in the recent past, oil prices have been relatively muted since the October 2023 attack by Hamas on Israel, which triggered the current crisis in the Middle East.

That's because OPEC, which is cutting oil production to “stabilize” the market, is sitting on an estimated 5 million barrels per day (bpd) of excess production capacity.

Analysts believe OPEC, mostly its Middle Eastern producers Saudi Arabia and fellow member of the United Arab Emirates (UAE), have enough spare capacity to cover potential losses in supply from Iran.

However, if tensions escalate with Iranian proxies targeting oil infrastructure in Iran's Middle Eastern neighbors, or if Iran moves to block or restrict oil cargo traffic through the Strait of Hormuz, oil prices could rise by triple digits and hit record highs, analysts say.

But most observers and experts see the mother of the oil shock – the closure of the Strait of Hormuz – the world's most important chokepoint for conducting oil trade of about 20 million barrels per day (bpd) – as a low-probability event.

Nevertheless, the market is poised for a real disruption in supply from the Middle East, a year after the current conflict began.

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If Iran's infrastructure is targeted, the maximum loss to global oil supplies would be about 3.5 million bpd, of which about 1 million bpd is exported, mostly to China.

Such a disruption is easily within OPEC's ability, as it has excess oil production capacity of more than 5 million bpd.

Amrita Sen, co-founder of consultancy Energy Aspects, told Reuters “In theory, if we lose all Iranian production – which is not our main concern – OPEC+ has enough spare capacity to meet the shock.”

Analysts say Saudi Arabia could increase its oil production by about 3 million bpd and the UAE by 1.4 million bpd.

The Israeli attack on Iran's oil infrastructure has caused prices to rise in the market, consultancy FGE said in a note on Friday.

Any disruption to Iranian oil supplies would likely push Brent above $80 a barrel, but in its absence we could quickly return to $70 a barrel, FGE said.

However, if the conflict escalates, excess capacity of Middle East producers could be vulnerable to attack, according to UBS analyst Giovanni Staunovo.

“Effectively available spare capacity could be much less if there is a renewed attack on energy infrastructure in countries in the region,” Staunovo told Reuters.

Citigroup sees a potential Israeli attack on Iran's main oil export hub of Kharg Island, where 90% of Iran's exports are made, as “low probability, high impact”.

But it could tempt Iran to try to disrupt traffic in the Strait of Hormuz, which would “represent a tipping point for the global oil market and the global economy,” CT said in a comment carried by MarketWatch.

Analysts at the bank noted that such an event could be a “significant spike well above previous record highs”.

Still, others doubt the increase will be so severe.

“[W]Is the US really sick of allowing Israel to blow up oil installations on its adversary's border in an election year? Will Iran really close the Strait of Hormuz, which would cut off not only its neighbors' exports, but its own, only significant source of international income? ” say analysts at PMV.

“The expansion of the war and its damage must be proven before oil market participants can shake off the overriding presence of skepticism.”

By Tsvetana Paraskova for Oilprice.com

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