100 days of Middle East conflict: resolution once again on the testbed for oil

The conflict in the Middle East keeps the oil market nervous. Israel and Iran have been exchanging hostilities since the weekend at comparably great scale. The current boil-up brings two major risks: collateral damage to the region’s energy infrastructure and the derailment of the ceasefire and ongoing negotiations between the United States and Iran. Despite various military confrontations over the past weeks, the negotiations gridlock between the United States and Iran has held up. The lack of a full-scale escalation could be seen as a sign of comfort by itself, especially considering the argument that escalation risks decrease over time as costs increase for both sides.

The oil market possibly sees this conflict balance as being once again on the testbed and reacts accordingly with nervousness. Beyond the geopolitical noise, the oil market proves resilient and digests the supply shock well for now. Several vessels transited Hormuz over the weekend. We sense a greater degree of trade pragmatism, mirrored in the different bilateral deals concluded between Gulf-locked sellers and mostly Asian buyers within Iran.

Transits growing over time

The current hostilities likely lift hesitance in the short term, but the common interests, and especially the profit opportunity, should keep these transits growing over time. Oil tends to find its way from sellers to buyers over time, especially when prices are elevated. The oil market’s deficit is closer to 5% than to 10%, thanks to the partial Hormuz flows, the alternative routes, and some demand curtailment, which provide breathing room to deal with the trade disruption with oil supplied from storage until late this year.

While a lasting trade disruption remains the bear scenario, our base case is a gradual easing, following similar dynamics to the early 80s, likely spiced up by some eventual US-Iran dealmaking. Today’s hostilities threaten the past weeks’ conflict balance due to the risks that come with hot-headed politics and the fact that the latest hostilities challenge the US-Israel alliance. While we are keeping a close eye on this, we stick to our cautious view and see oil prices heading lower beyond the summer.