Until last Thursday when a U.S. rocket attack killed Qasem Soleimani, the commander of Iran’s Revolutionary Guards’ Quds Force, the outlook for crude oil prices for 2020 called for some volatility but not much movement by the end of the year from where 2019 prices ended up.

Since then, prices jumped from around $61 a barrel for West Texas Intermediate (WTI) to a high of around $64.50. Early trading Monday was right around $63.50. Brent crude, the international benchmark, traded at around $66.45 on Thursday and spiked to more than $70 a barrel. Brent traded at around $69.30 Monday morning.

The drone strike against the Saudi oil facilities last September drove oil prices up by more than 10%, a bigger jump than the killing of Soleimani generated. Six weeks later, the price had fallen back to around $2 a barrel below the price before the attack.

Industry analysts at the Oxford Institute for Energy Studies had in June downplayed the impact that a geopolitical supply shock such as the drone attack or the killing of Soleimani would have on global oil markets:

There is plenty of evidence to suggest that the nature of the shock matters and that demand shocks and supply shocks do not have the same impact on oil prices, with demand shocks being more persistent and having a bigger impact on oil price movements. In a similar vein, not all supply shocks are alike and historically the impact of exogenous supply shocks due to geopolitical outages has been shown to be short-lived, while demand shocks in the face of capacity constraints can have a persistent impact.

A look at crude futures prices underscores the temporality of supply shock that markets are presently concerned about. The Brent spot market for February is already closed so we’ve included futures prices through September to give a picture of how the next six months shape up for both WTI and Brent prices.

	WTI	Brent
Feb-20	$63.39	closed
Mar-20	$63.17	$69.39
Apr-20	$62.82	$68.50
May-20	$62.37	$67.72
Jun-20	$61.78	$67.00
Jul-20	$61.11	$66.29
Aug-20	$60.40	$65.62
Sep-20	$59.85	$65.00

August futures for WTI (current spot plus six months) are selling for $60.48, about $0.50 lower than WTI sold for before Soleimani’s death. September futures for Brent crude are trading at $65.00, nearly $1.50 below its spot price last Thursday.

Crude oil traders wager billions of dollars every day on crude oil prices. It is a good idea to pay attention to what they are telling us: while the headlines may be full of scary words about the price of crude, a supply shock like the one that happened last week has little medium- to long-run negative impact on crude oil prices. If the conflict between the United States and Iran heats up significantly, however, then the story changes.

The crude market is currently wallowing in a condition called backwardation, wherein current spot prices are higher than futures prices. In a healthy market, futures prices are higher than current prices, a condition known as contango.

Moody’s Investors Service on Monday published its in-depth report on the oil and gas sector, citing access to capital, weak liquidity, higher costs of capital, and rising default risk combined with low crude prices as limiting the outlook for producers in 2020 while “rising geopolitical tensions in the Middle East will heighten volatility.” The analysts continue:

Rising production in 2020 will outpace growth in demand for oil amid a cyclical economic slowdown in several large industrial countries, and short-term supply adjustments …  While global oil demand growth has seldom been negative, consumption faces longer-term disruption in the power-generation and transportation sectors, with competitive costs and shifting consumer preferences benefitting renewables, and significant improvements in battery technology increasing the utility of electric vehicles. Moreover, capital providers with environmental or social directives are also actively reducing their exposures to energy companies, limiting the capital available for such companies.

In October, analysts at Credit Suisse lowered their crude oil price forecasts for 2020 and beyond, commenting “we see the market tipping back into oversupply next year even if OPEC+ extends its cut agreement through [2020] and assuming a pick-up in demand growth.” The analysts forecast a price of $55 a barrel for WTI and $63 for Brent crude. Credit Suisse also cut their forecast for 2021 and beyond by $5 a barrel to $55 a barrel for WTI and $65 for Brent.

For the medium term, Moody’s forecasts WTI in a range of $50 to $75 a barrel with Brent trading about $5 a barrel higher and concludes: “Short-term supply adjustments and rising geopolitical tensions in the Middle East will heighten volatility, with prices occasionally drifting outside the range, but such disruptions will likely be temporary.”

In an article in The Atlantic from 2004, retired Air Force colonel commented to writer James Fallows on a wargaming exercise in which the United States launched a strike against Iran:

After all this effort, I am left with two simple sentences for policymakers. You have no military solution for the issues of Iran. And you have to make diplomacy work.

Is there any reason to believe that has changed in the past 15 years? Probably not. That’s why the price of oil didn’t shoot higher last week and why the price will come down further as time goes on. Unless, of course, this time is different.

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