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Abu Dhabi, UAEMonday 10 December 2018

How US sanctions on Iran may impact energy markets

The US administration will take a decision on being a signatory to a pact to deter Iran from developing nuclear weapons

The Delta Kanaris tanker transporting Iranian crude oil enters the Naftoport in Gdansk, Poland. How US sanctions may affect the oil market is concerning global players. Dominik Kulaszewicz/EPA
The Delta Kanaris tanker transporting Iranian crude oil enters the Naftoport in Gdansk, Poland. How US sanctions may affect the oil market is concerning global players. Dominik Kulaszewicz/EPA

The possibility of US sanctions over Iran could push oil markets over the edge short-term, with prices rising up to $80 per barrel but the real impact on Iranian crude supplies to the market may be felt six months after the May 12 deadline on the Iran nuclear deal, according to analysts.

The US administration under President Donald Trump is widely expected to walk away from the 2015 pact with Iran and European powers to rein in Tehran’s capabilities to develop nuclear weapons. Known as the Joint Comprehensive Plan of Action (JCPOA), the agreement allowed Iran in principle to develop its ageing energy infrastructure with foreign investment and facilitate slow integration of its long-embargoed economy with the wider financial markets.

A decision to revoke the pact will come at a time of rallying oil prices, buoyed by production declines in Venezuela and steadied by a pact between Opec and members outside the group to prop up the market. The impact of JCPOA’s collapse is expected to add another $5 to Brent’s latest peak of $75 per barrel at the end of April.

“Risk is priced in but when it happens there will be another shock, and not necessarily on that day. It may be a temporary two, three day [rally] but when barrels [start being taken] out of the market, that’s when we start seeing the full impact,” said Iman Nasseri, managing director Middle East at London-based Facts Global Energy.

Iran accounts for around 9.3 per cent of the world’s total oil reserves and the biggest reserves of gas globally. Much of the oil is low-cost and easily extractable and, following the lift of nuclear-related sanctions in 2016, Iran was viewed the last frontier by Big Oil in search of cheap reserves.

Bringing back oil revenues became a priority for the Iranian government, whose economy was crippled by years of sanctions, with its banking sector teetering on the verge of collapse. The removal of sanctions extended a lifeline to the country. Their re-imposition will deprive Iran of much needed foreign currency, which has been drying up over the last couple of months as Iranians anticipated the noose tightening on the government. Iran’s rial has meanwhile seen a freefall against the dollar plunging to 50,000 in February and depreciating further to 60,000 last month.

Since 2016, Iran has since managed to up its production capacity to pre-sanctions levels of 3.9 million barrels per day, with output currently averaging 3.81m bpd in compliance with Opec restrictions. The Islamic Republic, which secured the release of funds frozen during its years of sanctions, also managed to gain market share among key importing nations, with Europe accounting for around 40 per cent of all Iranian crude at the end of last year.

European nations led by France and Germany, signatories to the JCPOA, are among those lobbying with the US administration for the survival of the pact.

A “snapback” of sanctions will not be immediate, but countries importing oil from Iran, which also include China, India and South Korea, would be asked to scale back their supplies - first by 20 per cent and the 40 per cent - over a six month period beginning either in May or in November, said Mr Nasseri.

The period will also give a lifeline for those seeking waivers to continue importing oil from Iran or secure investments currently parked in the country.

“If Trump is going to give waivers to European countries, who have increased their imports from Iran to 600,000 to 700,000 barrels per day, all of this will contribute to the impact of sanctions on Iran to supply all over the world,” said Mr Nasseri.

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Read more:

US approach to sanctions puts oil market at risk

Oil prices hit almost four-year high on Opec cuts and US Iran sanctions

Business Extra Podcast: What's next for the oil price rally?

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While a psychological impact on the oil markets is fairly certain, oil companies currently pursuing investment opportunities in Iran will look to secure their prospects for the foreseeable future.

The National reported in March that French major Total, which along with China National Petroleum Corporation and local Petropars signed a $4.8bn deal in 2016 to develop phase 11 of Iran’s South Pars gasfield, will look to seek a waiver from the Trump administration.

The rapport developed between French President Emmanuel Macron and Mr Trump last month could lead to Total securing its assets in Iran, said Homayoun Falakshahi, an upstream analyst on the country at energy consultancy Wood Mackenzie.

While Total would probably keep its Iranian deal, other opportunities pursued by the company following the lift of nuclear-related sanctions such as investment in an Iran LNG project would largely be scaled back.

“If they get a waiver to go ahead with the South Pars project, that would be considered good enough for them and, in the near future, I don’t see them coming back to pursue more opportunities,” said Mr Falakshahi.

“I think the image that would reflect towards the US wouldn’t really be appreciated,” he said.

Also up in the air are Total’s plans to invest up to $2 billion in the Iranian petrochemicals industry, for which it was said to have neared an agreement mid-2017.

The uncertainty over investing in the Iranian energy sector could open the door for more “mid-sized European companies like OMV in Austria or Wintershall in Germany” said Mr Falakshahi. However, the big oil majors that pre-qualified to compete in developing sizeable onshore oilfields, particularly those on the border with Iraq such as Azadegan, may keep away should the US leave the nuclear deal.

“If the US exits the nuclear deal, that will open the doors for Chinese companies and maybe Russian as well to come and operate,” said Mr Falakshahi.

Iran, meanwhile, has boosted exports to record levels, exporting 2.6 million bpd in April to customers in Asia and Europe ahead of the looming deadline, according to state petroleum news agency Shana.

Should the Trump administration scrap the deal, Iran will probably suffer a cut of 500,000 bpd, half of what it was penalised for during the 2012 sanctions.

“Obviously it’s going to have an impact, if up to half a million barrels per day are taken out of the market,” said Mr Falakshahi.

“All this is going to excite the market, so the prices will go up but to what extent we don’t know."