The Iran Accord and Subsequent Impact on Oil
The portfolio management team of the AdvisorShares Peritus High Yield ETF (HYLD) sheds light on the recent Iranian nuclear deal and how it affects their investment outlook on the oil industry.
The Iran Accord, a six month agreement between Iran and six nations (The United States, The United Kingdom, Germany, France, Russia and China) to curb Iran’s nuclear program in exchange for sanctions relief led to an immediate knee–jerk slide in Brent crude and WTI prices. This move is on the back of the perception of a reduction in the Middle East fear premium on oil and the potential of an additional 1 million bpd of Iranian crude exports. However, from a supply perspective the impact of the deal with Iran will be limited and we believe that any downward price movement will likely be short-lived for the following reasons:
- In the immediate, the agreement will have little impact on global oil supplies as Iran is still restricted to exporting about 1 million barrels per day. In actuality, the estimated impact of the deal on global supplies could be an increase of just a fraction of that. Globally, the world consumes about 89 million bpd. To say that this is a drop in the bucket is quite accurate.
- There remain a lot of hurdles between here and arriving at a long-term agreement with Iran. Not the least of which is Israel. Israel has touted the agreement as a “historic mistake.” Saudi Arabia, a most unlikely ally of Israel, has been equally critical of an endorsed nuclear Iran, urging the U.S. government not to support any nuclear efforts (for power or otherwise). Although publicly supportive of the Iranian deal as a step in preventing Iran from developing nuclear weapons, there are rumblings that the prospect of a nuclear Iran could lead to nuclear armament in Saudi Arabia. Add an Iranian supported government in Syria to the mix and this recipe does not sound like one that will reduce the tensions in the Middle East, and thus the fear premium in oil, any time soon.
- In the event a long-term agreement with Iran can be reached that would lift sanctions, the country could face significant technical challenges associated with bringing shut-in production back on line.
- Saudi Arabia has made up for much of the export declines from Iran since the sanctions were put in place. In the event that Iran can replace its lost barrels, it is unlikely to drive global prices much lower, as the Saudis certainly can respond by lowering their own crude production to keep prices in check.
All in all, this is a long term unfolding situation with little immediate impact on global oil supplies. Politically it is a very charged issue and will continue to be regardless of how it is resolved, but it is unlikely that oil prices will trend downwards for any sustained period as a result of developments in Iran. Indeed, reaching a final agreement that satisfies all parties adequately, reduces nuclear risk and reduces Middle East tension (and the associated fear premium) is remote at best.
When you cut through the noise we believe there are simple truths that remain intact. Demand for oil continues to rise, but it is becoming harder and more expensive to maintain or increase global oil production. The barrels produced today cost more to get out of the ground and thus necessitate higher prices. Prices in turn seem to find a floor at the marginal cost of a barrel of production. We believe all of these factors are supportive of higher oil prices, and thus this most recent accord does nothing to change our investment thesis or commitment to the oil industry.