Iran and $200 per barrel oil
As oil prices have plummeted over $12 a barrel in August from its peak to valley, many people I have talked to in recent weeks missed the move. Many were fearful about taking a position on the short side because what they fear might me an imminent attack on Iran. There is talk that the hands of Israel will not be restrained and the time is getting close to attacking Iran's nuclear program as President Shimon Peres warns that Iran jeopardizes Israel and the rest of the world when it threatens to use nuclear weapons. These fears have been intensified by some ominous predictions by some oil analysts that an attack on Iran might drive oil to $200 a barrel. Some traders are so deathly afraid of such a fantastic spike in price they are trying to avoid the short side at any cost.
This then raises the question, how credible is a prediction of $200 barrel crude of if there is an attack on Iran. One justification for that prediction is that Iran is a major OPEC oil producer. According to Oil and Gas Journal, as of January 2010, Iran has an estimated 137.6 billion barrels of proven oil reserves, or roughly 10% of the world's total reserves. Iran has 40 producing fields (27 onshore and 13 offshore) with the majority of crude oil reserves located in the southwestern Khuzestan region near the Iraqi border. Iran’s crude oil is generally medium in sulfur content and in the 28°-35° API range. In 2008, Iran exported about 2.4 million bbl/d of oil, primarily to Asia and OECD Europe countries, making it the fourth largest exporter in the world. Obviously the theory goes that if such a major producer cut off supply, then oil prices would surely spike. Maybe even to say $200 a barrel? Well probably not. Perhaps a few years ago when global oil supplies were tight and the global economies thirst for oil was unquenchable it might have been possible that a cut off could have driven the market to those levels yet now the market would have a more muted reaction. Take for example data from The Energy Information Administration (EIA) that shows U.S. supply near all time highs. The EIA say that this abundant supply provides a buffer against disruptions such as refinery and pipeline outages, storms, and unexpected local demand fluctuations. I will go a step further it will also act as a buffer if Iran cuts off oil supply.
The other reason why a spike to $200 a barrel in crude oil is highly unlikely is the world is in the best shape it has been in almost 30 years to handle a major disruption The world is awash in oil and spare production capacity and could easily make up for a loss of supply. This is unlike a few years ago when even the loss of a drop of oil could have a significant impact on price. In fact Saudi Arabia has enough spare capacity of its own to replace 100% of Iranian production.
Yet at the same time the $200 per barrel predictors say it does not matter because it is likely that if Iran is attacked that they will try to attack and block the Straits of Hormuz. This is a threat the Iranians have made many times and in past years has driven fear into a tight global oil market. The Straits of Hormuz is a vitally important choke point for the global oil market. It is located between Oman and Iran and connects the Persian Gulf with the Gulf of Oman and the Arabian Sea. The EIA says that Hormuz is the world's most important oil chokepoint due to its daily oil flow of 16.5-17 million barrels (first half 2008), which is roughly 40% of all seaborne traded oil (or 20% of oil traded worldwide). Oil flows averaged over 16.5 million barrels per day in 2006, dropped in 2007 to a little over 16 million barrels per day after OPEC cut production, but rose again in 2008 with rising Persian Gulf supplies. The $200 a barrel predictors say that Iran could shut the straights which at its narrowest point is 21 miles wide would strangle the world and oil prices to an inevitable $200 a barrel.
Those worries became more acute when Iran bought new weapons that could be used in trying to sink tankers in the straight. AFP News reported that Iran's recent unveiling of new missile-firing assault boats and an aerial drone is a source of concern for U.S. officials. State Department spokesman Philip Crowley told reporters: "This is ... something that is of concern to us and ... concern to Iran's neighbors." The $200 barrel predictors latched onto this saying surely this is why oil would go to $200 a barrel. Yet Bruce Clarke from the Defense Department examiner says that this may be more bluff than substance. He writes, “The new weapons that were unveiled included a prototype long-range unmanned bomber, new mini-submarines, and a surface-to-surface missile with somewhat increased range. State television said the unmanned bomber had a range of 620 miles and a speed of 560 miles per hour, and could be armed with four cruise missiles or a payload of either two 250-pound bombs or one 500 pounder, not much of a payload. These weapons are supposed to contribute to the overall strategy and allow for preemptive strikes. The Iranians outlined three plans (potentially before or after actual hostilities) that Iran could carry out in the event of an act of aggression from the United States or Israel. An act of aggression could be perceived as the preparation for an attack and thus justify preemptive action. The Iranian News website Tabnak reported:
1. Iran would take over complete control of the Strait of Hormuz.
2. Iran is closely monitoring U.S. military bases in Afghanistan and Iraq and would "paralyze the forces in these bases" and "not let them make any moves."
3. To "destroy the peace" in Israel.
Yet could Iran pull this off? Mr. Clarke goes on to say, “The mini-submarines and the existing fleet of fast boats might seek to control the Strait of Hormuz, however the U.S. as well as the Gulf Cooperative Council Nations have been procuring weapons systems and anti-mine capabilities that should be able to negate this threat.
At the same Mr. Clarke says that that the idea of Iran holding U.S. forces in Afghanistan and Iraq are plausible given the number of “new missiles” that the Iranians are fielding. But the missile technology while new to the Iranians is at least 40 years old as it relies on copies of North Korean missiles. The U.S. has the capability to intercept these missiles, as do the Israelis. What is not known is whether such defensive systems have been deployed. If they haven’t been deployed it is a reasonable assumption that U.S. commanders do not see the threat as credible.
Finally, says Mr. Clark that the unmanned aircraft may be able to reach Israel, but one cannot see it penetrating Israeli defenses in either a strike or counter strike role. The above leads to the conclusion that the Iranian claims are purely for both domestic political consumption and to try and empower Hezbollah who seems to be having trouble with the coalition in Lebanon that is being sponsored by Syria and Saudi Arabia, as we reported. This is at best a pure bluff by Iran.
Dale McFeatters goes further on the Iranian threat calling the month of August a military-dog-and-pony-show month in Iran. He says that last week, "Tehran boasted about the test firing of a new liquid-fueled surface-to-surface missile, the Qiam-1. On Monday, it proudly announced the opening of production lines for two new assault boats, the missile-armed Zolfgha and the high-speed patrol craft Seraj. The defense minister, Gen. Ahmad Vahidi, said the craft "will add remarkable powers to Iran's navy.”Earlier in the month, the navy proudly launched four Iranian-built subs.
But the theatrical centerpiece came Sunday, when President Mahmoud Ahmadinejad unveiled the nation's newest drone, the Karrar, or "Striker" in English. Literally unveiled it! The drone was draped with a gauzy cover that was ceremoniously pulled off at the appropriate moment, very much like the introduction of a new model at the Detroit auto show. To further the similarity, the drone was positioned before a painted backdrop of blue sky and fluffy clouds and in front of some cutout scenery, presumably there to indicate mountains.”
McFeatters goes on to say, “Drones are not especially graceful craft, and the Karrar looks especially clunky. But the Iranians claim the 13-foot jet can fly at 560 mph with a payload of two 250-pound bombs or a 450-pound missile. The drone has a range of 620 miles, not far enough, as every report was quick to note, to reach Israel. Ahmadinejad referred to the drone as "an ambassador of death," an odd way to convey what he called its "main message of peace and friendship." And he had a warning for the U.S. and Israel. "The scope of Iran's reaction will include the entire earth," he said. And, lifting a phrase from Washington, Ahmadinejad said that "all options are on the table.”Iran has operated surveillance drones since the late 1980, according to the Associated Press. And, indeed, U.S. fighters shot one down just inside Iraq in 2009. The Iranian defense ministry said the drone was there by mistake. Perhaps so. Iranian drone operations seem to be lacking in what the U.S. military calls "tradoc," training and doctrine. In Tuesday's Wall Street Journal, Iran analyst Michael Ledeen reports that a few weeks ago the Iranian air force shot down three drones near the country's new nuclear reactor. The Revolutionary Guards rushed to the wreckage certain of finding proof of U.S. or Israeli espionage, only to find out the drones were Iran's own. Someone had neglected to alert the air force to the drones' presence.”
On top of that If Iran even tried to shut down the straits the regime would be signing its own death warrant. The worlds' hand would not be restrained in such a blanket attack against the global economy. They would view it as an act of economic warfare. And there are alternatives. The EIA says that closure of the Strait of Hormuz would require the use of longer alternate routes at increased transportation costs. Alternate routes include the 745 miles-long Petroline, also known as the East-West Pipeline, across Saudi Arabia from Abqaiq to the Red Sea. The East-West Pipeline has a capacity to move five million-bbl/d. The Abqaiq-Yanbu natural gas liquids pipeline, which runs parallel to Petroline to the Red Sea, has a 290,000-bbl/d capacity. Other alternate routes could include the deactivated 1.65-million bbl/d Iraqi Pipeline across Saudi Arabia (IPSA), and the 0.5 million-bbl/d Tapline to Lebanon. Oil could also be pumped north to Ceyhan in Turkey from Iraq.
All of this would make oil more expensive but it would not make it to $200 a barrel. Maybe if Iran nuked their oil fields or bombed Saudi Arabia we could see a spike to $200 but if they did that we would have bigger problems that $200 a barrel oil. Listen, if there is an attack on Iran oil would spike but quickly recover as a flood of oil would be unleashed around the globe. Maybe we would see $100 per barrel but $200 a barrel is very unlikely.
Phil Flynn is senior energy analyst for PFGBest Research and a Fox Business Network contributor. He can be reached at (800) 935-6487 or at email@example.com