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Trump and Iran might lift oil prices, for now

Don't bet against the president's imminent Iran decision lifting oil prices. But don't expect the rally to last either

Predicting what a stable genius will do next is no easy thing. But now the oil market must wait again on Donald Trump, who will decide this week what to do about US participation in the Iran nuclear deal.

The timing of his decision, due on 12 January, whether to decertify the agreement again is awkward—for Trump, Iran and the oil market. Trump's fighting his own local fires, including the fallout from Michael Wolff's fly-on-the-wall book, the Russia investigation and North Korea. Protestors in Iran remain on the streets, despite the Revolutionary Guard's claim to have suppressed the unrest. And the oil market, after a lengthy rally, has paused for breath.

Brent was trading in London at almost $68 a barrel on 8 January. But, depending on Trump, it's not hard to see a $70 handle on the benchmark come Friday. Another decertification of the nuclear deal won't in itself be too bullish—the market expects that—but using the moment of the decertification to toss some rhetorical grenades in Tehran's direction would affect sentiment.

Two factors make the Trump and Iran issue important to the oil market. First is the chance that Trump and a Republican-controlled Congress go a step further than mere decertification and re-impose sanctions on Iran's oil sector. That's one reason why anyone trading oil will parse Trump's words when he makes his announcement.

Before some of the nuclear sanctions were lifted in 2016, the embargo had reduced Iranian exports by about 1m barrels a day, although the impact wouldn't be as great this time around. Trump would struggle to persuade the European partners to the nuclear deal to go along with sanctions of their own—they, like many of Trump's advisors, think Iran is keeping to its part of the agreement. Still, Richard Nephew, an expert on sanctions at Columbia's Center for Global Energy Policy, reckons US measures could remove 300,000-400,000 b/d of Iranian oil.

The bigger bullish risk is that Trump uses the protests and the heavy-handedness of the regime's response—22 people have been killed and more than 1,000 arrested—to take a much more aggressive posture on Iran, and in so doing unravel the entire pact struck by the Obama administration. Nikki Haley, the US ambassador to the UN, has already repeated that Iran is now "on notice" and Secretary of State Rex Tillerson has said more sanctions are being prepared.

Tense times

The capacity for Iranian-US relations to unravel quickly has never been small, even at the best of times. Now, in light of the events on Iran's streets in the past week and Trump's unpredictability, it is much greater. Tehran has already hinted, again, that if the US "fails to honour its commitments" in the nuclear deal it may also ditch its cooperation. Trump's language when he announces his Iran decision on Friday will matter—and nothing about his foreign-policy statements to date says he will be too vexed about diplomatic subtleties or the risk of being misconstrued in the Middle East. Any words hinting at regime change would be inflammatory. That's already on the agenda for some of Trump's backers. The president has already alluded to this. 

If you sell oil, you might welcome another bump in the price. That is short-sighted. Injecting more steam into the rally now, just as the oil market enters a weak demand quarter, would bring problems further down the line. Despite recent months of relative tightness, the fundamentals are weakening again.

The International Energy Agency last month predicted that total supply growth in 2018 could exceed demand growth. Barclays, an investment bank, said in a 5 January report that "rising non-Opec supply growth is already set to push the market back into surplus during Q2 and Q3, and current price levels will only fuel further production growth". It also reckons up to 300,000 b/d of demand could be cut from forecasts at current prices.

Shale will prove this story first. A sustained WTI price above $60/b will continue to support both hedging of future production and a strong drilling response. The US rig count dipped last week—but only after rising for three weeks. Productivity from new rigs continues to rise. And the fruits of recent activity will be visible later in Q1.

In short, Trump's Iran decision this week could be very significant for the oil market. But short of a total collapse of the nuclear deal—involving all parties to it, not just the White House—it might involve more fury than fire. And any price strength it causes should be treated cautiously. The behaviour of American drillers, not their politicians, remains decisive for price direction in the coming months.

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