Oil Supply Shock in the Making?

Lately, the economic spotlight has been shining brightly on oil, as the EU and the U.S. have both signed sanctions against the importation of Iranian oil.

Late last December, European government officials met and finally agreed that they would hold an embargo against the imports of Iranian crude oil. Officials, however, have yet to decide when and how to implement the ban.

Meanwhile, U.S. President Barack Obama signed into law financial sanctions geared against Iran. I don’t want to get into the legal mumbo-jumbo, but this basically means that it would be extremely difficult for oil refineries to purchase Iranian oil.

This is no coincidence, folks. According to experts, this is clearly a coordinated move by Western powers like the U.S. and member nations of the EU to hold back Iran’s nuclear program. While Iran is insistent that the program is not for military use, EU and U.S. officials point to a U.N. report released last November that indicated that Iran is looking to build an atomic bomb. Yikes!

Take note that Iran is one of the biggest oil suppliers in the world and that this embargo would be like taking a punch to its financial gut. The ban will force the Iranian government to find other buyers for their oil, which could prove to be a very tall task as the EU ranks as Iran’s second largest oil importer. In addition, let’s not forget that other nations will probably hop on the anti-Iranian oil bandwagon, making the situation more complicated.

Moreover, the impact on crude oil prices is already evident. On the first day of trading (January 3), Brent crude oil prices jumped up to nearly $114/barrel, up $2 from its opening price. Meanwhile, WTI crude oil closed at $103.00, up $3.30 on the day!

If you’ve been a good student in our School of Pipsology, you’d remember that crude oil prices and the Canadian dollar walk hand in hand. After all, Canada is one of the top oil producers in the world as it exports roughly 2 million barrels per day to the U.S. As Happy Pip illustrated in her comdoll preview for 2012, threats to oil supply in 2011 drove up the commodity’s price and boosted the Loonie in effect.

Now that the possibility of an oil supply shock looms on the horizon, market participants expect crude oil prices to continue rising, and we all know how these speculations tend to be self-fulfilling.

However, the Loonie’s reaction to the news has been limited lately, thanks to persistent euro zone debt concerns and the comeback of risk aversion. Aside from that, several economic gurus pointed out that the impact on the markets would most likely be restrained since the details of the oil embargo have yet to be finalized.

Besides, political tensions between the U.S. and Iran could keep risk-taking in check, further dampening crude oil’s gains. Another thing to consider is that the OPEC’s recent decision to increase oil production targets could counter the effect of the oil embargo. Iran ain’t the only black crack dealer in the world yo!

Looking back at history would also reveal that Western countries have imposed various sanctions on Iran several times already, yet these measures had very little impact on oil supply and prices. Then again, what sets the most recent sanction apart is that it specifically targets Iran’s oil industry, which comprises 60% of its economy.

With that, Iran retaliated by warning the U.S. that attempts to reduce its oil exports could be damaging for the global economy, which isn’t exactly on a stable footing last time I checked. I’ll keep you posted on how it all pans out!