Oil prices have run up a hefty 22.7% since the start of this year. Economy growth has driven oil demand higher. Indeed, the oil market is finally in supply versus demand balance. However, oil prices have further to run as numerous threats threaten to knock out a huge chunk of supply.
Iranian oil supplies are once again in the crosshairs of the US government. The Trump administration has repudiated the Iran deal and slapped on debilitating sanctions.
This is terrible news for the Iranian oil industry. Skittish western oil companies are pulling out of the country in droves. Iran desperately needs foreign capital and expertise to maintain oil production in its aging fields.
Right now, Iran produces about 3.8 million barrels of oil a day. The last time Iran was hit with sanctions, its production fell by about a quarter. That’s about one million barrels a day. This time it could be even worse because the US government is a lot more aggressive about punishing Iran this time around.
Venezuelan Turmoil to Drive Oil Prices Higher
Venezuela is also in the midst of an economic disaster of its own making. The oil-rich South American country has mismanaged its enormous natural resource wealth and endemic corruption has gutted the economy.
Hyper-inflation is now running at an unfathomable 40,000% annually. Venezuelans are struggling to find food, medicine, and other basic necessities. Violent crime and food riots are a regular occurrence in Venezuela’s capital Caracas.
At this point, economic collapse (and possibly even civil war) is only a matter of time. That’s going to slam Venezuela’s 1.5 million barrel a day oil production.
Indeed, Venezuelan oil production is particularly vulnerable to decline for two reasons. First, most of Venezuela’s oil is in the form of oil sands deposits. This type of oil is technically difficult and expensive to extract and process. Venezuela’s oil industry has been gutted by epic mismanagement and lacks the resources necessary to maintain production.
Second, Venezuela produces heavy, sour crude that is hard to process by refiners. That forces the country to import light, sweet crude to blend with its own oil before it can process it or sell it on.
However, Venezuela’s currency reserves are dwindling rapidly. That means that it may become insolvent and unable to afford its imports.
As a result, Venezuela oil production is falling steadily. Indeed, it’s already down about 500 thousand barrels year-on-year and 1.4 million barrels from its peak four years ago.
This downward trend will continue in the coming months. It may even accelerate if the country breaks out in a bout of widespread violence similar to the ones that are roiling the oil-rich Mideast. That’s potentially another 500 thousand barrels off the market.
In conclusion, there is no end in sight in oil supply declines from Iran and Venezuela. The loss of 1.5 million barrels or more from a tight oil market is more than enough to push oil prices much higher.