Amid rising Gulf tension, two forces temper oil volatility

Amid rising Gulf tension, two forces temper oil volatility

(L to R) Venezuela’s Oil Minister Manuel Quevedo, Secretary General of OPEC Mohammed Barkindo, Saudi Arabia’s Energy Minister Khalid Al-Falih, and Russia’s Energy Minister Alexander Novak attend the one-day OPEC+ group meeting in the Saudi city of Jeddah on May 19, 2019. (AFP)

Last week was dramatic for the oil markets, with prices rising amid geopolitical tensions in the Arabian Gulf — yet two key forces, the China-US trade spat and OPEC+ alliance, acted as a counterbalance to the volatility.
Political tensions ratcheted up, with four vessels being “sabotaged” off the port of Fujairah in the UAE, and drone attacks by the Iran-aligned Houthi militia on two pumping stations along Saudi Arabia’s critical East-West Pipeline. The pipeline, which has a capacity of about 5 million barrels per day (bpd), was built in the 1980s amid fears the Iran-Iraq war would cut off shipping through the Strait of Hormuz. The Gulf has the potential to become a choking point for global oil supplies, because 20 percent of the world’s crude has to move through the Strait.
No wonder, then, that traders got nervous. The attacks in Saudi Arabia and the UAE were proof that the situation is serious and goes well beyond rhetoric. The US has sent its aircraft carrier USS Abraham Lincoln to the Gulf, and US President Donald Trump is reportedly willing to send up to 120,000 troops to the region should Iran attack US forces or accelerate its nuclear work. All sides say they do not want war, but the world is watching events unfold with bated breath. Leaders from the Gulf and Arab League are set to attend emergency summits in Makkah on May 30.

So far OPEC+ has had a positive effect on markets, supplying extra crude when needed and taking it off when there was too much around.

Cornelia Meyer

It was not just geopolitics that provided upward pressure to oil prices. OPEC supplies are down too. According to Argus Media, Venezuela oil production has collapsed to 500,000 bpd amid a precarious domestic situation, down from 1.15 million bpd in December. Iran’s production is down due to the US sanctions, while the contamination of Russian crude flowing through the Druzhba pipeline has further aggravated the supply situation.
Downward revisions of demand growth, however, had a mitigating effect on the oil price. And the biggest counterforce to rising oil prices are the faltering US-China trade negotiations. 
On May 10, President Trump ratcheted up tariffs from 10 to 25 percent on $200 billion worth of Chinese imports. He is threatening additional tariffs on the remaining $300 billion of Chinese imports. China retaliated, which has less of an impact due the imbalance of the trading relationship.
The trade war further ratcheted up when the US administration put Huawei on an embargo list, putting at risk the telecoms firm’s US supply chain. Intel, Qualcomm, and Broadcom — three of the world’s leading chip suppliers — are reportedly cutting off their dealings with Huawei. China marks a huge market for chips — and so this move illustrates another impact of the trade row, which will see lower demand for oil, the world’s premier transportation fuel.
Though designed to take excess oil off the market, thus boosting prices, the production-cut agreement of OPEC+ — which is made up of the producer group and several allies led by Russia — has also helped appease market sentiment. It is somewhat counterintuitive, but the OPEC+ deal helps to keep prices in check because the cuts mean there is spare capacity in the system, with producers able to ramp up production should tensions escalate — thus reassuring the market.
On Sunday, the Joint Ministerial Monitoring Committee (JMMC) of OPEC+ met in Jeddah under the capable leadership of Khalid Al-Falih and Alexander Novak, the energy ministers of Saudi Arabia and Russia. They took a wait-and-see attitude, and will decide how to proceed with the production cuts when ministers meet in Vienna at the end of June. Al-Falih ensured markets that Saudi Arabia stands ready to supply them in case of any shortfalls, which he does not see at the present time. 
So far OPEC+ has had a positive effect on markets, supplying extra crude when needed and taking it off when there was too much around. Stability benefits all, because wild fluctuations in the oil price make it hard for producers and consumers alike to plan with certainty.

  • Cornelia Meyer is a business consultant, macro-economist and energy expert. Twitter: @MeyerResources
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