The nuclear deal between Iran and US is a landmark one, that can have significant bearings on the geopolitics of Middle East, and will likely have an impact on oil and gas prices as well.
As per the agreement, Iran has agreed to step back on its nuclear ambitions and in return sanctions imposed by the US and EU will be eased out. Iran earlier said that as soon as sanctions are lifted, it will be able to increase its exports by about 1 million barrels per day (mbpd).
Analysts estimate that there is already an excess of 2-3 mbpd of oil in the world today and increasing supply from Iran should put future downward pressure on oil prices. However, since the deal was announced yesterday, oil prices that had initially fallen, have actually climbed back up marginally.
Some say this is because traders had been expecting a deal for months and had already adjusted prices in its effects.
But, I think the ground reality is that people are realizing that while the deal will not have any significant immediate impact on oil prices, it does have the potential to reduce prices in the long run. This is broadly because of two factors: firstly, the time it will take for Iranian oil to reach the market and secondly, the fact that nothing is guaranteed just yet.
It is expected that the US Congress with take another 30-60 days to review and agree on the deal; following which the UN inspections could take another three months, meaning that if things go well, we should see sanctions easing out early next year. Iran has in the past said that as soon as sanctions are lifted they will be able to increase their exports by 1.0 mbpd, however most analysts estimate that the increase will be lot more gradual. They expect exports to increase by 0.2 mbpd immediately after sanctions are lifted and then by end of next year to increase by upto 0.5 mbpd. They also estimate that given the price impact of this surge in supply, Iran will also onboard additional supply slowly.
Over the years, Iran´s oil fields have struggled because of lack of investment and are in a state of decline and peril. They will need huge investments-to the tune of $100 billion-to get their production back to pre-sanction levels, and that will take time. By some estimates, Iran has 30-40 million bbl of Iranian oil in floating storage in tankers in the Persian gulf and another 20-25 million barrels in storage onshore. However, analysts estimate that a large part of this may be condensate which will not be attractive for a lot of buyers and Iran may struggle to sell this volume immediately. Not just oil, Iran can have a huge impact on the gas markets as well. Iran has the second biggest gas reserves in the world, however, it is still a net importer of gas because of huge domestic demand. Because of sanctions, its planned construction of an LNG terminal has been stuck for years and may take three more years to complete. Energy Aspects analysts suggest that it may take up to three years for a noticeable uptick in production from the largest gas field in the world that is situated in Iran. But, as Iran ramps up its production, it can become an alternate source of supply for Europe and more importantly for countries like Pakistan and India. All this has a lot of uncertainty associated with it. There is going to be a lot of debate in the US Congress on this deal, and there is a chance that President Obama may have to use a Presidential Waiver to ratify it.
Iran needs over $100 billion in investments to increase their oil and gas production, and even though they have this sum in the form of frozen assets in foreign banks and will be able to access it, further investment and technology expertise will have to come from the western firms. But, the clauses of automatic snapping back of sanctions in case of violation increase the risk profile of any investment in Iran, and the country will thus have to give western companies more assurances, if they want them to invest.
Also, if the US Congress does not ratify the deal, most US companies will probably wait until the US elections next year to decide on investments. And, while EU companies like Shell, ENI and Total may start investing sooner, they will look for incentives to offset the risk of non-compliance leading to re-imposition of sanctions. In the meantime, Saudi Arabia and Russia are continuing to produce significant amount of oil, and US shale production has not yet dropped. Greece and China continue to add to the downside risk on demand and currency impact. This suggests that oil prices may remain subdued in the short term even though Iranian oil will not make it to the market immediately.
However, late 2016 onwards, oil and gas from Iran should help keep prices in check in the medium term, and especially in oil, help replace some of the costlier choices from Russia or Brazil etc.
This should auger well for the Indian economy as muted oil prices will help keep the import bill and inflation under check. However, the lifting of sanctions may have a mixed impact on our exports to Iran. Earlier, because of restrictions, Iran was forced to buy some products from India in exchange for oil they sent us, now they will not have that obligation and will be free to source from other places as well. But in areas like agro-commodities with sanctions gone, Indian firms may have a bigger opportunity to pursue new deals.
- Authored by Aditya Gandhi, Director, Sapient Global Markets (India).
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