Following the outbreak of hostilities in Iran, volatility across global oil prices will define the next several days, if not weeks. With the price of crude poised to jump when Asian markets open on Sunday, we think that a reality check is in order on what the adjusted price of oil means.
Source: Bloomberg, RSM
About 90.5 million barrels of oil are currently floating on the water, which may dampen the rational overshooting in the price of Brent crude when trading resumes.
These dynamics are nothing new. The past four decades, after all, have featured repeated conflicts that roil global oil prices.
The price of oil following the second Gulf War in 2003, for example, averaged $75.93 for Brent crude, the global benchmark, while West Texas Intermediate, the North American benchmark, averaged $72.80. Today’s prices are not far off: Brent crude closed at $72.87 on Friday, while WTI was $67.02.
If one adjusts for inflation from 2003 to 2013,, that would imply a current price above $100.
Oil today is in real terms cheaper even with the recent 23% increase in Brent crude since December.
Whatever volatility occurs as markets reopen and whatever breathless talk there will be about $100 oil, it is critical to note that the potential for economic damage and lasting inflation is restrained.
Second, total global oil production stands at 86 million barrels per day, according to the latest data available through October 2024. If one adds in the production of natural gas, condensates, biofuels and other liquids it’s 103.5 million barrels per day.
So, even as 20% of global oil supplies move through the Strait of Hormuz, the production and processing of oil have increased notably since 2003, when global production stood at 71 million barrels per day.
To be sure, if conflict in the Gulf results in a complete loss of insurance for oil shipping and if the Strait is closed, that would cause the price of oil to jump.
But by how much?
The Federal Reserve of Dallas recently outlined a number of scenarios, including the closing of the Strait of Hormuz, and the result was a temporary move toward $100 per barrel followed by price moderation once the oilway is reopened.
Third, the quantity of oil floating on the open water, when added to the surge in Saudi and Iranian production over the past month, suggests that an oversupply in the global oil market existed before hostilities broke out.
OPEC+ will meet in Vienna to discuss how it can offset the lost Iranian oil.
Overwrought research notes on risks to the economic and inflationary outlook should be placed in the proper context to understand what volatility means, and how price movements amid geopolitical tensions often fall back and even overshoot to the downside once hostilities subside.
Like central bankers who tend to look through temporary increases in the price of oil, whatever their source, it is wise to not get too worked up about what $80, $90, or even $100 oil really means.
