Oil: Escalation risks and fair value gap – Commerzbank

Commerzbank’s Carsten Fritsch highlights that the biggest current risk for Oil is a potential US military strike on Iran, which could disrupt flows and sharply tighten supply. He notes Brent has already risen about 10% to above USD 72, well above an estimated fair value near USD 66, as geopolitical risk premia and time spreads widen.

US-Iran tensions drive Oil repricing

"The supply volumes in question could be lost, at least temporarily, in the event of a US military strike, which would lead to a corresponding tightening of supply on the oil market. However, these outages could be offset by increased production in other OPEC countries. Saudi Arabia, Iraq and the United Arab Emirates in particular still have sufficient spare production capacity."

"However, the greatest risk of a US attack on Iran lies in a possible blockade of the shipping route through the Strait of Hormuz. Iran already closed the strait for several hours during military drills last week. It would not even require a complete closure."

"Such a quantity could not be offset by drawing on spare production capacity, especially since this would also be cut off from the oil market if the strait were blocked. Pipeline capacity to bypass the strait by land is limited and already largely at capacity limits. Depending on the duration of the disruption to shipping, this would lead to a noticeable tightening of oil supplies and a sharp decline in inventories."

"Over the past three weeks, the oil market has begun to price in the risk of an escalation in the US-Iran conflict and the associated risks to oil supply. Since the beginning of February, the price of Brent crude oil has risen by around 10% to just over USD 72 per barrel, its highest level in almost seven months. Most of the recent price increase is due to a widening risk premium."

"The price is thus well above the fair price of oil, which could be explained by fundamental factors alone. The time spreads of the Brent forward curve, i.e. the price differentials for the various maturities of the forward contracts, also widened noticeably. On Friday, a premium of USD 3.5 had to be paid for oil deliverable in one month compared to oil deliverable in seven months."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)