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Iranian nuclear becomes threat to oil markets

Iran’s nuclear ambition remains a threat to global oil markets, but not because of sanctions on its crude exports

EU and US sanctions against Iranian oil sales have already been priced into the market and will probably have only a limited impact on the country’s exports. Coming into force on 1 July, the sanctions will also affect global crude prices far less than last year’s shut down of the Libyan energy sector.

“The Iran [sanctions] story has been in the market since November,” said one trader. “It’s already built into the oil price.”

But if the sanctions fail to bring a change in the Iranian government’s nuclear strategy, Israel, with or without the support of Western governments, may be more inclined to launch a military strike on Iran on its own – a move that would immediately inject more risk into oil markets, if it threatened another war in the Middle East.

A shot in the foot

Reports on 15 February that Iran would pre-empt the EU ban on its oil by immediately curtailing sales to its customers in the bloc – which takes about 600,000 barrels a day (b/d) from Iran – should also be discounted, say analysts. The oil and finance ministries, the only ones that matter where Iran’s oil-export strategy is concerned, have not endorsed that plan, which was reported by one of the country’s news agencies – and immediately denied. “They aren’t going to shoot themselves in the foot,” said Bill Farren-Price, chief executive of Petroleum Policy Intelligence, an oil-market consultancy.

A looser supply/demand balance makes Iran’s bargaining position weaker, too. The International Energy Agency (IEA) expects Angola, the UAE, Libya and Iraq to all bring new production capacity on stream over the course of 2012, potentially to the tune of 850,000 b/d. Non-Opec supply is also forecast to rise this year, by nearly 1 million b/d. Moreover, those rises will come against a backdrop of a slowdown in global oil-demand growth.

Bridging the gap

Western governments have lobbied Saudi Arabia to support the embargo on Iran, which produces 3.56 million b/d and exports about 2.6 million b/d, by making additional crude volumes available. The kingdom hasn’t endorsed the measures against its Gulf rival and fellow Opec member. But in sticking to its policy of balancing the market and meeting any increase in requests from its existing customers, Saudi Arabia will ensure supplies rise as needed.

Output of 11.8 million b/d, about 2 million b/d more than now, could be achieved quickly, claims the oil ministry. Saudi Arabia won’t bridge any supply gap to countries such as Greece or Sri Lanka, both Iranian customers, but not Saudi ones, but will step up sales to China or India as needed.

Taking advantage

Meanwhile, Iran’s customers in Europe and Asia, the recipients of most of its crude exports, are already making alternative supply arrangements, or will use the embargo to squeeze much better terms for any oil they import from the Islamic republic. European buyers will look to Russia and the Middle East.

A price dispute between China and Iran has already seen oil trade between the two countries fall – and Iran’s struggles should let China, which at its peak imported about a fifth, or 550,000 b/d, of Iran’s exports, strike a better deal. India, which last year bought 350,000 b/d of Iranian oil, has resisted Western calls to back the sanctions – and may pay for some of its crude in rupees as a way to circumvent the US sanctions, which target the Iranian Central Bank.

Floating alternative

Any Iranian oil that can’t find its way to market during the two or three months that Iran needs to reshuffle its sales strategy will probably end up in floating storage, believe analysts. Iranian tankers in the Mideast Gulf could hold between 30 million and 50 million barrels of crude.

So, even if the sanctions were to curtail Iranian exports, rising supplies and weakening demand growth – Opec output alone will exceed demand for its crude by up to 2 million b/d in the second quarter – mean the outage would likely affect the market far less than last year’s drop in Libyan exports did. The uprising against Muammar Qadhafi removed 1.6 million b/d of high-quality crude from the market during a period when supplies were already tight. Iran’s heavier oil would go missing during a much looser period for the market.

Some countries will suffer: beleaguered and credit-risky Greece will struggle to replace its Iranian imports; and Japan and South Korea will have to tread a fine line between their Western allies and their reliance on Iranian oil. Both may have to buy lighter grades of oil from Africa and adjust their refining needs.

Learning to cope

Iran won’t have it easy. But, as Alireza Zeighami, its deputy oil minister, pointed out in an interview with Petroleum Economist, the country has faced sanctions since 1979 – and learned to cope. “The new sanctions aren’t going to be any problem,” he said.

If the sanctions pass without a change in Iran’s nuclear ambitions, however, their failure could lay the ground for more extreme measures. Reports out of Israel, lately quoting defence minister Ehud Barak, suggest the country believes a strike on Iran must happen before mid-year if the country’s nuclear programme is to be stopped. Previous strikes by Israel against nuclear installations in the region – in Iraq and Syria in 1981 and 2007, respectively – came with little warning.

Iran is hardly hiding its ambitions, either. It maintains that its nuclear programme is for civilian power generation, but on 15 February held a press conference to unveil new domestically manufactured nuclear fuel rods, which it says have been enriched to 20%, well beneath weapons grade, but high enough above civilian grade to prompt more hand-wringing in the West.

Tension building

And tension between Israel and Iran is building, after assassinations of Iranian nuclear scientists in Tehran – thought to have been carried out by Israeli intelligence – were followed this week by a foiled bomb attack on Israeli diplomats in Bangkok, Thailand.

In short, the Iran risks to the oil market right now aren’t the ones everyone already knows about – the sanctions, which probably won’t work – but the ones that might drop out of the sky.

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