In a market as volatile as the oil sector, big changes are always on the horizon. Oil prices have been low since December 2014, but geopolitics are threatening to disrupt supply levels while norms that have prevailed for almost a century are being challenged. The oil markets have witnessed a spike in crude prices over the last couple of months due to increasing global turmoil and speculation about what the future could hold. Investors seeking to capitalize on the potential rise in oil prices will need to monitor key geopolitical factors closely to time their trades with precision.
The Iran Deal
The United States just recently pulled out of the Iran Deal, and people who are directly impacted are now left to wonder the direction of Middle East politics for years to come. In the final years of the presidency of Barack Obama, the critical agreement was reached between leaders around the world regarding Iran’s nuclear program. The Iran deal released frozen Iranian assets in exchange for Tehran agreeing to scale back its nuclear program. Most significantly, the agreement allowed Iran to begin selling the 3.8 million barrels of oil it produces each day on the global markets.
President Donald Trump is opposed to Iran, and he has made comments about discarding the Iran deal since he came into office. With domestic reforms completed, Trump is now turning his attention to reassessing the Iran deal. The deadline of May 12, 2018, was announced for the issuing of a final decision by the U.S. about the future of the agreement with Tehran. Since the deal was rescinded, there will be an immediate drop in global oil supply while geopolitical tensions could reach record highs. Many nations, included Russia and China, have already threatened to retaliate if the U.S. backs down on the agreement. In the event that the U.S. rescinds the Iran deal, global oil prices will skyrocket.
— Matt Badiali (@MattBadialiGuru) May 9, 2018
The “Quiet War” on the Arabian Peninsula
Yemen and Saudi Arabia have a long history of intractable hostilities that have continued into modern times. The two nations went to war in 1934, and they have remained on bad terms ever since. In recent years, the political situation in Yemen has become volatile as Houthi rebels and terrorist groups have seized control over key cities. Consequently, Saudi Arabia began intervening in Yemen’s conflict in 2015, and Riyadh’s intervention has led to a cross-border conflict that many geopolitical analysts have termed a “Quiet War.”
Yemen ordinarily produces a moderate volume of oil, but the conflict’s most serious impact on the energy markets is derived from recent escalations that could threaten the stability of Saudi Arabia’s oil exports. On March 26, 2018, Houthi rebels in Yemen launched a ballistic missile attack against Saudi Arabia. Although the missiles were intercepted, the growing capabilities of Yemen’s rebels create the potential for attacks on Saudi Arabia’s key oil assets. Iran has also had a role in enabling the conflict in Yemen to take place by supplying the rebels, so the outcome of the Iran deal could be an additional factor influencing the situation in Yemen as Tehran considers escalating its involvement.
According to Matt Badiali, a senior analyst at Banyan Hill, a high proportion of Saudi Arabia’s oil exports move through the Bab al-Mandeb Strait, and the rebels may be able to hit oil tankers traversing through this bottleneck. If Yemen’s conflict escalates to new levels, Riyadh’s reduced ability to export oil could lead to a major surge in oil prices.
For now, the current oil price movement has reflected a “buy on the rumor, sell on the news” reaction, said Matt Badiali, senior research analyst at Banyan Hill.https://t.co/18NEsoAzB6#Oil #Trump #PresidentTrump #Iran #Nuclear #NuclearDeal #MarketWatch #Market #StockMarket pic.twitter.com/OM0H0e54Ot
— Matt Badiali (@MattBadialiGuru) May 9, 2018
Economic Turmoil in Venezuela
Venezuela has experienced a serious financial crisis in recent years due to inflation and geopolitical tensions. The problems that have occurred in Venezuela are now trickling into the nation’s oil industry as its crude production continues to fall. Before experiencing economic problems in 2014, the nation had over 80 rigs in operation. Each year since Venezuela’s crisis began, its rig count has gradually fallen. Today, Venezuela has just 40 rigs in operation, and oil experts are projecting that its crude exports could continue to plummet.
Although Venezuela exported approximately 3 million barrels of oil per day in 1997, it now exports just 1.4 million barrels of oil per day. Analysts are now projecting that Venezuela’s oil production will sink below 1.2 million barrels per day by the end of 2018. If Venezuela’s economic crisis continues, the struggling nation may continue to reduce its oil exports as it transitions its focus to more critical economic sectors.
Yuan-Denominated Crude Futures Contracts
The U.S. dollar has always been closely associated with the oil price since the end of World War II. Saudi Arabia sells its oil in U.S. dollars, and the U.S. has accounted for most of the demand for oil since the beginning of the 20th century. Rapid growth in China, however, is threatening to disrupt norms in the oil market. China has been working on developing yuan-denominated crude futures contracts for almost a decade, and the new system is likely to launch in 2018.
The futures will be offered by exchanges based in the Shanghai Free Trade Zone, so buyers from around the world will be able to purchase yuan-denominated oil contracts for the first time. According to Matt Badiali, China’s goal is to “supplant the U.S. dollar with the yuan” by introducing currency alternatives in the oil markets. In the current markets, almost all crude produced globally is sold for U.S. dollars using contracts originating from U.S. exchanges, such as the West Texas Intermediate.
With direct involvement in the oil markets, China will be able to give nations an alternative to using the existing system that is dominated by U.S. markets. Only a minor proportion of global oil contracts are projected to be based in yuan upon the release of China’s new oil exchange. However, the introduction of competition will put upward pressure on the price of oil contracts denominated in U.S. dollars in the long run if China’s yuan-denominated system is successful. In the short term, investors may witness an immediate spike in prices once the Chinese exchange becomes operational.
Learn More About Matt Badiali