N. Janardhan :
Oil markets fluctuated about five per cent during late March and early April following three significant events – the Saudi-led coalition air strikes against Al Houthi rebels in Yemen; the framework nuclear agreement between Iran and six world powers; and Saudi Arabia raising prices for all crude grades it will sell to Asia in May.
Early April witnessed oil prices jumping more than five per cent as the oil markets reconfigured two factors – the duration of time before Iran might be able to increase exports after the diplomatic breakthrough; and possible slowing of months-long rise in US crude inventories.
Brent crude rose 5.77 per cent, its biggest one-day percentage rise since surging 7.8 per cent in mid-February. The rally followed a nearly four per cent slip soon after the announcement of the preliminary nuclear agreement. However, initial expectations of a quick recovery in Iran’s oil exports were moderated by sentiments that it could take much longer than expected – between four months and a year after a final deal is signed – to lift sanctions.
Oil futures also climbed more than $1 a barrel after Saudi Arabia raised its prices for all crude sales to Asia for the second month, indicating growing demand in the region.
Nevertheless, it was the concerns over the conflict in Yemen that first triggered the oil price speculation during late March.
A small amount of pressure on any oil transit chokepoint means a big squeeze in the futures market. So, after months of downturn in oil prices, the events in Yemen gave oil traders a chance to speculate, hiking prices between five and eight per cent.
However, even before the coalition led by Saudi Arabia launched ‘Operation Storm of Resolve’ during late March, the risks of Yemen’s civil war spreading had kept the oil markets awake. World benchmark North Sea Brent crude witnessed one of its biggest gains of 2015, climbing more than seven per cent, before declining to $56.41 by March end.
Initial spike in oil prices was conditioned by the first round of territorial gains by the Houthis in Yemen, followed by the Saudi-led airstrikes. The regional coalition’s successful efforts to limit the Iran-affiliated faction’s advance calmed the oil market. But, with military action so far being limited to air strikes, and the possibility of a ground offensive very much open, the last word on how the oil market will react is yet to be heard.
Two factors spiked prices – one, any conflict would lead to reduced oil supply, resulting in higher cost; and two, many market forces had bet on prices remaining low throughout the year. In the second case, the conflict forced them initially to change their positions in a hurry, before correction. In the former case, markets relaxed after realisation that irrespective of the conflict, it had excess supply and US crude stocks were at record highs.
Saudi Arabia’s direct intervention to counter Al Houthis came after it felt that its core interests, including the security of the Bab Al Mandeb Strait at the southern end of the Red Sea, was under threat, following the rebel group’s political gains in Sanaa, which extended to Aden.
Saudi Arabia also approached Al Houthis crisis proactively fearing that a non-military response would encourage the Yemeni rebels to get adventurous and attempt incursions across the Saudi border.
With Iran threatening in the past to block the other chokepoint in the region – the Strait of Hormuz through which 15 per cent of the world oil flows – if it was attacked, the Kingdom did not want the Houthis to use the same threat vis-à-vis Bab Al Mandeb.
Though Yemen has oil and gas resources, its exports are minimal. But the oil market reacts not only to the situation on the ground but on the basis of worst-case scenario forecasts. As a result, it factored the possible impact on the oil market if the flow of oil through the Bab Al Mandeb Strait was affected. About four million bpd of crude – about seven per cent of global seaborne oil trade – flows through Bab Al Mandeb.
Yemen is the gateway to the Red Sea and the Suez Canal, through which about five per cent of the world’s oil is reportedly shipped. It has a proven reserve of about three billion barrels of oil and 17 trillion cubic feet of gas. Its average production in 2014 was 130,000 barrels per day (bpd), down from 440,000 bpd in 2001. The ongoing conflict has forced production to sub-2014 levels.
It must be noted, however, that with naval vessels from the United States, the European Union and China, among others, patrolling near the straits, the chances of the Yemen conflict shutting the strait is remote.
Overall, the crisis in Yemen will continue to play on the minds of the oil traders. The sooner the tensions calm down, the faster oil prices will stabilise; and the longer the crisis persists or even intensifies, so will the fluctuations remain in an otherwise-low-price milieu.
(N. Janardhan is a Gulf-based analyst, author and honorary fellow of the University of Exeter)
