Oil markets have been repriced for a longer disruption to flows through the Strait of Hormuz. The International Energy Agency puts current shut-ins at about 8m barrels a day (b/d) of crude output. A prolonged disruption could lead producers to cut upstream supply further to manage storage limits. Further shut-ins could delay a return to normal even if the strait reopens, because output would take time to ramp up.

Implications For Upstream Supply

Any extra supply response from the US is expected to be delayed and limited. It could take at least six months for additional US supply to come online, and volumes would be a fraction of current losses. OPEC spare capacity is described as having limited practical use if oil cannot move through the strait. Most spare capacity is located in the Persian Gulf. One scenario assumes energy flows remain close to a full standstill until the end of May. It then assumes a gradual recovery between June and August, with prices rising to record highs and staying elevated to balance the market through demand destruction. With Brent crude trading this morning near $145 a barrel, we must accept that the disruption to flows in the Strait of Hormuz will be prolonged. The failure of the Geneva talks last week signals that a quick resolution is unlikely, forcing markets to reprice for a sustained supply shock. This is not a short-term event, and trading strategies should reflect a new, higher-priced reality for oil.

Market Balance And Demand

The physical market is incredibly tight, with around 8 million barrels per day of production remaining shut-in. Most of OPEC’s spare capacity is located inside the Persian Gulf, making it useless until the strait reopens. This is a far more severe situation than the supply shock we saw back in 2022, as the tools to mitigate it are severely limited. A supply response from the United States will not arrive in time to make a difference in the coming months. Baker Hughes data from last Friday showed a gain of only 5 oil rigs, a tepid response given that prices have been in the triple digits for weeks. Unlike the rapid shale growth we witnessed after 2011, capital discipline and supply chain constraints are preventing a quick ramp-up this time. The futures market is pricing in this extreme scarcity, with the front-month contract trading at a steep $5 premium to the six-month contract. This backwardation indicates traders are paying anything to secure immediate barrels, a situation reinforced by last week’s smaller-than-expected 15-million-barrel release from the Strategic Petroleum Reserve. It shows that governments are now trying to conserve their emergency stockpiles. Ultimately, the market will have to be balanced by destroying demand, which requires prices to remain elevated. The latest IEA report showed a preliminary 1.5 million barrel per day drop in global demand for February, but this is a fraction of the ongoing supply loss. Therefore, any dip in prices should be viewed as a buying opportunity, as the fundamental supply deficit is nowhere near being resolved. Create your live VT Markets account and start trading now.

Start trading now – Click here to create your real VT Markets account