The Iran nuclear deal effect: Gushing in on an

oversupplied oil market

July 27, 2015

By Rohit Nagraj
Assistant Manager - Investment Research at Aranca

Iran and the six global powers consummated a closely watched nuclear deal amidst the
backdrop of Greek financial crisis. The deal would halt Irans nuclear program while
simultaneously relieving sanctions on Iran, thus enabling the country to augment its oil
exports in an oversupplied global oil market. What does this mean for the global oil market?
The already oversupplied market is likely to gush with more oil supplies. Key questions
remain about when these new supplies will hit the market and what their impact on oil
prices will be.
Although the deal is concluded, the actual effect on sanctions relief is not likely to happen
for a period of at least six months. This implies that the Iranian oil is not expected to flow in
the global market before the 2nd quarter of 2016. So, what happens once the deal is
completely over? It is estimated that Iran is currently storing about 30mn barrels (bbls) of oil
in tankers on the sea. Iran can start offloading this oil in the global market, albeit slowly, so
that oil prices do not collapse or react aggressively to it. Even if Iran wants to offload the
entire quantity in say three months, it would add about 300,000bpd supplies to the global
market.
Iran will take time to attain its earlier peak oil production

Sanctions on Iran by the western world limited its oil exports, leading to lower oil revenues
that cascaded further to lower investments in the development of oil fields. These sanctions
not only stalled the development of some of the fields but also stalled foreign investments in
the Oil and Gas sector. Iran reported peak oil production of 4.0mbpd in July 2005 and
maintained oil production rate of about 3.5mbpd+ till end-2011. Towards the end of 2011,
the US imposed sanctions on Irans Central Bank and further by mid-2012 the EU imposed
an import ban and sanctions on shipping insurance in Irans oil sector. These sanctions led to
Irans oil production decline to an average of about 2.7-2.8mbpd with lowest oil production
observed in October 2013 (2.6mbpd).

Iran would take considerable time to reach its peak production as it is technically difficult to
raise oil production immediately. Secondly, Oil and Gas sector investments have come off
significantly post the sanctions and instilling confidence among foreign players for future
investments would certainly take a lot of time.
Nonetheless, Iran with its 158bn bbls of proved reserves is the fourth largest country in
terms of oil reserves in the world (after Venezuela, Saudi Arabia and Canada). So,
eventually, may be 3-5 years down the line, we may witness more oil coming from Iran. On a
broader basis lifting sanctions on Iran would keep the oil prices low for a considerable period
of time.

OPEC spare capacity to limit oil price upside

Since global debt meltdown, although the OPEC spare capacity has declined, it still stands at
about 2.0mbpd (a tad lower than an average of 2.2mbpd during 2004-2014). OPEC spare
capacity acts as a buffer in the global oil ecosystem which helps to absorb shocks such as
geopolitical issues affecting oil production, natural calamities affecting supplies and similar
situations affecting the oil market. This spare capacity lies predominantly with Saudi Arabia
as some of the other OPEC members are still struggling with a normalized oil production and
geopolitical issues are restricting the development of their oil fields.

Mixed oil demand forecasts by global agencies

International Energy Agency (IEA) in its July 2015 Oil Market Report (OMR) indicated that the
global oil demand is forecasted to slow down from an average of 1.4mbpd in 2015 to
1.2mbpd in 2016. While OPEC in its July 2015 Monthly Oil Market Report (MOMR) indicated
that the global oil demand is forecasted to increase from an average of 1.28mbpd in 2015 to
1.34mbpd in 2016. US Energy Information Administrations (EIA) forecasts are largely in line
with OPECs with oil demand projected to increase from an average of 1.3mbpd in 2015 to
1.4mbpd in 2016. Further, EIA forecasts oil prices to average at US$ 60/ bbl in 2015 (Brent
prices averaged at US$ 59.4/ bbl in 1H2015) and averaging to US$ 67/ bbl in 2016. A word of
caution; these forecasts were made before the consummation of the Iranian nuclear deal
and we would certainly expect some further developments in future monthly reports.

Oil prices (Brent) fell from about US$ 115/bbl in June 2014 touching a low of about US$ 47/
bbl in January 2015. From the lows, oil prices started recovering and are currently trading at
about US$ 60/ bbl. Oil prices did not increase linearly during the past six months however
the increase was primarily due to some pullback in oil prices from the lows, growth in the US
economy, expectations of US Fed rate hike, and global increase in oil demand. Despite low
oil prices, OPEC is pumping more oil (supplies for June averaged at 31.7mbpd, a three year
high) to save its market share.
So, the already oversupplied oil market is expected to add more supplies in the global oil
market with Irans incremental supplies. Although the timeline for Irans oil supplies is
unclear, it would curb oil price increase over the next 6-12 months. Furthermore, how Iran
progresses with the development of its oil fields is a key indicator to watch out for. Chinas
economy, a key driver in the global growth engine for oil demand, has lost its momentum
and facing staggered growth.
Hence, global oil market is expected to be sufficiently supplied if not oversupplied over the
3-5 years which implies oil prices are not likely to witness the three-digit level anytime soon.