Down Arrow Button Icon

It’s been the steady drumbeat that has defined the oil market over the last two years. As tensions have mounted between Iran and the U.S., each development—from renewed sanctions to saber-rattling to the threat of outright war—has brought the question: how much are oil prices going to rise?

There are historical reasons for this: conflicts in the Middle East are associated with oil price increases. In the past, they have had such an effect—the lead-up to the 1990 Gulf War, in particular, sparked a prolonged rally—and day-to-day, price spikes are often used as a proxy for just how nervous investors are about global politics.

But if we take the last several days as a guide, convention certainly doesn’t match reality. While Brent crude initially spiked on Friday, following the U.S. killing of Iranian General Qassem Soleimani, by Wednesday the jump had evaporated.

Oil prices were back where they started—and oil analysts weren’t surprised.

The market now seems to be conditioned to start selling soon after a geopolitical price spike occurs, looking to cash in immediately, knowing the rally will be short-lived, said Eric Nuttall, a senior portfolio manager at Ninepoint Parners in Toronto.

After years of oversupply, particularly from the U.S. shale boom, geopolitical shocks just don’t result in persistent oil price pops like they used to.

Oil hits $70

On Monday, the price of Brent crude futures hit $70 per barrel, before settling at $68.91—the highest close in more than three months. But by market close on Wednesday, Brent had not only eliminated the initial rally following Soleimani’s death—which were already fairly modest, building on months of rising prices—but had slid some 4% on the day to end at a more than three-week low.

This may seem counter-intuitive. “Historically, every time you’ve had bombs flying in the Middle East there’s always been risks that something might hit oil infrastructure, because there’s so much of it there,” says Christopher Haines, a crude oil analyst at London consultancy Energy Aspects.

But there are relatively straightforward reasons behind oil’s tepid response. First, the attack on Soleimani didn’t have an immediate impact on the supply of oil—it just stoked fears that supply could be disrupted if the conflict escalated.

A perennial concern is that a conflict in the region could result in Iran closing off the Strait of Hormuz, the world’s most important oil chokepoint. The strait—which links the Persian Gulf and Asian markets, and through which an estimated 40% of the world’s crude passes every day—is bordered on one side by Oman and on the other by Iran.

Iran has pledged to close the strait in the past if war breaks out—and saber-rattling in and near the strait last year resulted in brief oil rallies. But there’s a good reason for Iran to not follow through. After the U.S. reimposed sanctions on Iran in 2018, economically crippling the country, one of the few remaining customers for Iranian oil has been China. How does Iranian oil get to China? Through the Strait of Hormuz. And, indeed, the waterway has stayed open during this week’s U.S.-Iran escalation.

But there’s a second factor at play here, too. “Right now, people think that we have an awful lot of oil available,” Haines said.

Oil overload

Texas’s shale boom has redrawn the oil map of the world: the U.S., far from being a massive importer of oil, is now a frequent exporter. In October, the last month numbers were available, crude exports from the country hit around 3.38 million barrels per day, according to the U.S. Energy Information Administration. That was a record—and a gain of 1.1 million barrels per day from just a year before.

According to the Joint Organizations Data Initiative, a project that tracks oil data, U.S. exports accounted for around 12% of total global exports that month—far short of Saudi Arabia’s nearly 27%, but a dramatic jump from nearly 0% a decade before.

That’s produced the general feeling that there is no end to the supply, and oil prices have little incentive to rise.

Strikes on Saudi Arabia

To get another sense of why the oil market does little more than shrug at the prospect of the outbreak of war in the Middle East, it’s helpful to look back to September 2019.

Then, drone attacks on an oil refinery and an oil field in Saudi Arabia produced what looked like a “worst case scenario:” the disruption of half of production in the world’s largest oil exporter, amounting to about 5% of the world’s supply. It was a genuine supply hit, during a time when the geopolitical mood was already shaky.

Oil prices acted accordingly, and spiked up to 20% in a single day, the largest one-day jump since the mid-1980s. But then something else happened: prices almost immediately started dropping. In just over two weeks, Brent not only erased that initial gain, but dropped further, taking more than 16% off its post-strike peak. Saudi Arabia had worked quickly to calm global markets and reassure buyers, but, still, the impact was striking—it was like the attacks had never happened at all.

“It’s incredible,” said Nuttall, reflecting on the drop. The belief that there is enough oil to soften any blow to supply has meant that it’s difficult for oil to hold higher, even with a massive shocks, he said. Even a few years ago, he said he could not imagine that happening.

Does that mean that a threat to supply will never again produce a long-term oil price pop?

No, but when it comes to disruptions with lasting effects, the biggest risks don’t necessarily lie in the Middle East anymore; they’re in Texas.