IEA Approves Record Oil Reserve Release, Keeping a Lid on Prices

On Wednesday, IEA members approved a record-setting coordinated release of 400 million barrels from global reserves, helping to keep an expected increase in Brent crude prices to just five percent. Brent closed at $92 per barrel, well under the $100 benchmark and far short of the $120-per-barrel levels it approached briefly on Monday.

The continued increase in pricing reflects market expectations that the Strait of Hormuz will remained closed, pending major geopolitical or military developments. The effective shuttering of the waterway has bottled up about 15 million barrels of supply (net) out of a total global oil trade of 100 million barrels a day, creating immediate problems for the region's producers. Iraq, Kuwait and Saudi Arabia have all throttled back production to match their respective export and storage capabilities; the UAE is expected join next with well shut-ins as early as next week, according to analysts at Societe Generale.

To reduce its exposure, Saudi Aramco has maximized use of the East-West pipeline, sending an additional four million barrels per day of Saudi crude overland to its Red Sea terminal at Yanbu. More than two dozen tankers have rerouted from the Gulf to Yanbu to meet the supply at the new location - but Yanbu's lower rate of loading at the pier will limit its near-term capability. At present Yanbu is achieving just 2.2 million bpd, compared to the 7 million bpd potential of the East-West pipeline.

The White House has urged tanker owners to make the run through the strait and resume unescorted operations to and from the Gulf, but several factors continue to deter shipping. The first is the continuing risk to crewmembers: three ships were hit overnight Tuesday, resulting in one major casualty and three missing personnel. The second is the cost of insurance, reported to be running as high as one to two percent of hull value for a Gulf voyage. The U.S. government is now supporting the war risk insurance market with a $20 billion revolving reinsurance fund, administered by Chubb. The third factor is the absence of naval escorts, which the U.S. Navy has said it will not provide because it considers the current risks to be too high.

The IEA reserve release was intended to reassure the market and keep oil price increases within tolerable limits, but a protracted closure is expected to result in rising costs for energy consumers. Iran's Islamic Revolutionary Guard Corps - the most powerful political force within the country - has stated that this is its objective.

"You [the U.S. government] will not be able to artificially lower the price of oil. Expect oil at $200 per barrel," an IRGC spokesperson said in a statement Wednesday. "The price of oil depends on regional security, and you are the main source of insecurity in the region."

Energy executives and analysts have predicted severe disruption in the event of a protracted closure, lasting well after the strait reopens. Repositioning tankers, restarting shut-in oil wells and rebooting shuttered refineries will take time, and unwinding the effects of the crisis will not happen overnight.

Aramco Chief Executive Officer Amin Nasser warned in an earnings call this week that there "would be catastrophic consequences for the world’s oil markets" if the shutdown persists. "While we have faced disruptions in the past, this one by far is the biggest crisis the region’s oil and gas industry has faced," Nasser warned.

Neil Atkinson, the former chief of oil at the International Energy Agency, told CNBC this week that the world faces a "game-changing and unprecedented energy crisis" in the event of a long shutdown in the strait - especially once production gets shut in at an increasing number of Gulf oil fields. While he declined to predict future prices in round numbers, he said that "the sky is the limit."