Crude Seen Rising Faster Than Market Shows on Iraq Violence

Jun 24, 2014 12:38 am ET

(Updates oil price spread in second paragraph.)

June 24 (Bloomberg) -- The worsening conflict in Iraq poses a bigger risk to long-term oil prices than traders anticipate, according to banks from Citigroup Inc. and Bank of America Corp.

Brent crude contracts for December 2018 cost $15.26 a barrel less than August, a spread that’s widened by 9.9 percent since the end of May. Violence in Iraq is the biggest risk to new supply this decade from any nation in the Organization of Petroleum Exporting Countries, the International Energy Agency said June 13.

While fighters from the Islamic State in Iraq and the Levant have seized cities north of Baghdad, the majority of oil assets are in the south and east. Still, having the al-Qaeda splinter group within miles of the nation’s capital threatens to derail plans to increase production.

“The market has worked itself into an extraordinary level of complacency,” Seth Kleinman, European head of energy research at Citigroup in London, said by phone on June 19. “The reality is that Iraq matters now and, given what a big component it is of global production growth, it matters possibly even more for the future.”

Brent reached a nine-month intraday peak of $115.71 a barrel on June 19 and settled yesterday at $114.12. December 2018 futures of the grade have advanced 4 percent since ISIL seized Mosul, settling at $98.86 a barrel. The North Sea grade is used to price more than half the world’s oil, including Iraq’s Basrah Light grade.

Shia South

Markets haven’t panicked because Shia-dominated southern regions remain unaffected and will be fiercely defended against the ISIL insurgency, Harry Tchilinguirian, BNP Paribas’s head of commodity markets strategy, said by e-mail on June 20. Southern Iraq produced more than 85 percent of the country’s 3.1 million barrels a day of crude in April and shipped all of its 2.5 million barrels of daily exports, Oil Ministry data show.

A long-term deterioration of security because of regular terrorist attacks could affect international oil companies and they might scale back operations, Tchilinguirian said.

Exxon Mobil Corp. and BP Plc began removing some employees from projects in Iraq last week. The IEA cut its forecast for Iraq’s capacity expansion to 2019 by 470,000 barrels a day in a report on June 17, citing the insurgency. The country will boost production by a “conservative” 1.28 million barrels a day to 4.54 million over the period, the IEA estimates.

No Flood

“Foreign upstream investment will be reduced as will the government’s capacity to progress major infrastructure projects and resolve bureaucratic issues,” threatening Iraq’s target of 5 million barrels of daily production by 2020, Amrita Sen, chief oil markets analyst at London-based consultant Energy Aspects Ltd., said by e-mail yesterday. Brent for delivery at the end of this decade will probably advance because current price levels need “a lot of incremental oil supply from Iraq, while all the current dynamics suggest that the flood may just be a trickle,” said Sen.

“What’s happening in Iraq is exacerbating the problem” of prolonged supply disruptions caused by sanctions on Iran, political feuding in Libya and the civil war in Syria, Francisco Blanch, head of commodities research at Bank of America in York, said by phone on June 19. The bank said it expects long-dated Brent prices to rise.

Critical Source

With Iraqi Kurdish forces moving to secure territory threatened by the militants, including the northern Kirkuk oilfield, the current turmoil may yet allow a near-term increase in the nation’s crude exports, Citigroup and Barclays Plc predicted.

Production growth from non-OPEC nations such as the U.S., which are as important in determining long-term prices as OPEC supplies, may also mute the market reaction, said Tchilinguirian.

Still, any persisting danger to such a critical source of supply growth as Iraq should push long-term prices a few dollars higher, said Miswin Mahesh, an analyst at Barclays in London.

“The extra production capacity is supposed to come from Iraq, and you have a big, fluid situation there,” Mahesh said by phone on June 19. “That does throw the door open for the value of the back end to be reassessed.”