President Trump is stepping up his attack on Iran. He’s now planning the long-game for maximum pressure. The news that Trump quietly asked Saudi Arabia to ramp up output by 1 million barrels a day is the key.
From the analysis at Oilprice.com:
Saudi Arabia and some of its close Arab allies in the Gulf, as well as the leader of the non-OPEC nations taking part in the production cut deal—Russia—are the only producers that have the spare capacity to increase production. So, in case of increased production from OPEC and allies, the potentially lower oil prices would hurt the other OPEC members that don’t have the spare capacity to boost output.
The point here is to begin dropping oil prices now that the U.S. has blown out Turkey’s finances and helped Saudi Arabia improve its fiscal position for the rest of the year with high oil prices.
Turkey is a net energy importer and $75+ per barrel oil is a huge drain on its finances at a time when its currency and bond markets are under serious pressure from a strengthening U.S. dollar. Don’t think for a second the Turkish lira wasn’t helped in its fall. This is a classic hybrid war attack on a country not playing by U.S. rules.
But, now that Trump’s U.S. economy is threatened by high energy costs, he’s looking to improve that situation while also putting a strain on Iran’s finances through the double whammy of losing not only up to 1 million barrels of production per day but also getting $20-25 less per barrel.
And right on target, oil shorts are piling on because that’s what happens when the markets are told which way policy is heading. The Saudis, never ones to miss out on an opportunity to abuse its customers, just set its monthly tender price at the highest markup over benchmark across all its grades in four years.
State-owned Saudi Arabian Oil Co. raised its official selling price for Arab Light crude for July shipment to Asia by 20 cents to $2.10 a barrel more than the Middle East benchmark, the company said Tuesday in an emailed statement. The company’s third consecutive increase in the grade brings it to the highest since July 2014. The producer, known as Saudi Aramco, increased the premium by less than the 34 cent rise expected by six traders in a Bloomberg survey
According to Bloomberg, this signals the Saudis are confident in the demand for their oil in Asian markets. This is definitely a sign that they think there will be a significant drop-off in Iranian production in two months when the sanctions are reinstated by the U.S. after President Trump pulled out of the JCPOA.
Iran Has Friends
But, as I’ve pointed out in the past, the drop in 2012 when Iran was sanctioned off from the markets was around 800,000 barrels per day, from 3.8 million to just around 3 million.
And today things are completely different. Because the Chinese has successfully launched a yuan-denominated oil futures contract, the so-called petroyuan contract, which Iran is gleefully selling its oil on. This will ensure a more stable flow of Iranian oil to its customers this fall.
So, while Japan and South Korea may pull back on their buying, China can, and likely will, increase its buying, offsetting the loss. Moreover, India, which resisted the U.S. in 2012 by utilizing barter to pay for Iranian oil, has already announced it intends to keep buying despite sanctions.
Iran is too important to India’s future integration into Central Asian growth since its fued with Pakistan precludes it from being an official part of China’s One Belt, One Road initiative.
Lastly, in Iran’s favor is the Russian oil-for-goods swap arrangement where Russia buys 500,000 barrels per day of oil in exchange for Russian goods, similar to previous deals Iran had with India. It loaded its first shipment between the two countries in April. Russian oil firms then market the oil themselves and bank the spread.
Again, neatly avoiding any dollar-related sanctions. With Venezuela in meltdown, Iran in the U.S. cross-hairs and the planet cooling off at rapid rate the oil market could easily tip into supply deficit in the coming months as we approach another cold winter.
Wagging the Dog
This is why Trump is pushing for OPEC to increase production and prime the oil markets during the soft summer months to tank the oil price before these things hit. The futures market is being used here to wag the dog and push prices down into the fall.
But, the problem is that oil has entered new bullish phase. The Monthly Chart (source: Investing.com) is decidedly bullish and the quarterly even more so.
It would take a weekly close below the Q1 low of $61.76 to throw significant water on fire. Brent is trading today just below $75 so there’s a lot of ground to make up here. But, expect the headlines for oil to be extra bearish all summer.
They will result in temporary moves, but it will be the long-term charts which will determine the trend. And right now the trend for oil is bullish.
In my mind the only way we hit $60 this summer is if Iran isn’t forced to scale back production by upwards of a million barrels per day and the dollar begins spiking, crushing the global economy. This will put downward pressure on the euro and the yuan, making them more attractive currencies to buy oil in, which Iran would be happy to accept.
If the new tools at its disposal are enough to offset the sanctions then it’s very possible to see oil drop back towards $60. But, regardless of what Trump’s intentions are, China will buy oil from those with over-supply at a discount which comes in the form of the currency arbitrage of spending in its native currency.
And that will be the key for Iran, selling its oil in whatever currency is offered and using them to stabilize its foreign exchange markets. And, don’t forget that the Saudis need nearly $90 per barrel to balance their budget this year.
But, the big if in all of this will be Europe. Will Europe find a way legally to avoid the sanctions and continue buying oil from Iran in euros without incurring the wrath of Trump.
That is, I’m sure, what is being discussed at the highest levels of all of these governments.