Risk level: Orange - High

RED: Severe (+/- 4%) ORANGE: High (+/- 2%)  YELLOW: Elevated (+/- 1%)  BLUE: Guarded (+/- ½%)

The risk is real, but the uncertain factor regarding President Trump's decision on the Iranian nuclear is for whom. The price for Brent crude oil was testing the $77 per barrel mark by early Monday and WTI had already topped the psychological threshold of $70 per barrel before the start of trading in New York. We were on the mark last week with our Blue alert, with crude oil prices moving less than a full percentage point. With Trump surrounding himself with advisors with an adversarial view of Tehran, we see oil prices moving sharply higher for most of the week.

"The U.S. exit from the JCPOA will show that the Americans are isolated and are no longer trustworthy for international interactions," Iranian Foreign Minister Javad Zarif said on Monday.

Trump has until May 12 to decide on extending sanctions waivers for Iran. Calling the Joint Comprehensive Plan of Action a shoddy deal, his decision against waivers would take the United States out of the agreement that limits Iranian nuclear ambitions. Iran is exporting around 1 million barrels per day, down from their earlier peak of around 2.5 million bpd, but those extra barrels are important in a tightened market. OPEC said commercial oil stocks in the advanced economies of the OECD are down from their peak of 3.12 billion barrels in July 2016, when crude oil prices averaged $44.95 per barrel, to 2.83 billion barrels in March 2018, when crude oil prices averaged $66.10 per barrel. By OPEC's metrics, that corresponds to a decline of about 300 million barrels, which indicates what Iranian oil there is flowing in the international market matters.

Collectively, even if Iranian oil clients decided to look elsewhere, it would be hard to find as Saudi Arabia is unlikely to move unless oil prices start to test the $100 per barrel market. But non-U.S. parties to the JCPOA have shown willingness to maintain, at the very least, an open-door policy with Iran. European leaders met with Iranian Deputy Foreign Minister Hossein Jaberi Ansari last week. On Monday, British Foreign Secretary Boris Johnson met in Washington with his U.S. counterpart, Mike Pompeo. Writing in The New York Times, Johnson said it would be a mistake to jeopardize the deal.

"Only Iran would gain from abandoning the restrictions on its nuclear program," he wrote.

Trump, meanwhile, has already expressed concern about higher oil prices, using has preferred venue for communicating policy – Twitter – to complain that OPEC is "at it again" by pushing oil prices to "very high" levels.  When he wrote that on April 20, Brent was at $74.62. It was above $76 per barrel by mid-day Monday. Higher oil prices mean higher gas prices for American consumers and, guessing by his reaction, the OPEC production agreement is offsetting some of the gains from U.S. tax reforms.

Gholamreza Manouchehri, the deputy head of the National Iranian Oil Co., said nothing can stop Iran. The IMF said Iranian economic recovery has in part been led by the non-oil sector and real GDP growth is expected to be in the 4 percent range through 2019. That assessment was made in March. Manouchehri said Monday that, under sanctions pressure for decades, Iran can figure out how to preserve its market share.

So what about the United States? If Boris Johnson is right, who stands to lose if it's Iran that gains the upper hand? There are already suggestions of a recession emerging for the world's leading economy at some point in the near future. A 2016 report from Christiane Baumeister of the University of Notre Dame and Lutz Kilian of the University of Michigan found "little net effect" on the U.S. economy from that era's drop in crude oil prices. So the reverse must be true – "little net effect" from a spike in crude oil prices. But if the Iranian sanctions move is read through the same lens as the OPEC oil embargo, the U.S. recession in the 1970s should serve as a reminder of the stakes at play in the economics behind the price of oil.  With little spare capacity available, with manufacturing sectors under pressure from U.S. trade policies and with inflation already under the microscope, backing out of the deal with Iran could have a blowback effect for the U.S. economy.

We're issuing an Orange alert, expecting crude oil prices to move by as much 2 percent for the week.

Figure 1 from: International Studies Quarterly (1983) 27, 419-441 War and Power Dynamics: Economic Underpinnings CHARLES F. DORAN Johns Hopkins University

 

Risk level: Blue - Guarded

RED: Severe (+/- 4%) ORANGE: High (+/- 2%)  YELLOW: Elevated (+/- 1%)  BLUE: Guarded (+/- ½%)

 

We continue to see moderation ahead for the price of crude oil as traders take a wait-and-see approach ahead of the May 12 deadline for a U.S. decision on the Iranian nuclear deal. The price for Brent should stick within its current range. We were overly aggressive last week with our Yellow Alert as Brent ended the week down by about a half percent at $74.42 per barrel.

It's earnings season. Results were more or less mixed, with Exxon Mobil disappointing after posting solid gains in the fourth quarter with help from the U.S. tax reform. Chevron, meanwhile, saw share prices jump 0.9 percent to $126.62 after upstream earnings more than doubled from last year to $3.35 billion.  But it was French supermajor Total that offered one of the better peaks at market sentiment when it took notice of an environment that "remains nevertheless volatile with persistent uncertainty."

On Tuesday, British energy company BP publishes its quarterly earnings and markets are certain to move on comments from CEO Bob Dudley. The supermajor is already coming out of one of its strongest quarters in years, but Dudley's mind has been on the future. Speaking last week in London, the CEO said the shifting energy landscape meant oil will fade from the global energy mix.

"At some point oil will stop growing," he said. "But the pace of any subsequent decline is likely to be very slow, with the world needing a lot of oil for a long time to come."

Which brings us to the esteemed John Kemp. Citing Stein's Law -- If something cannot continue forever, it will stop – the Reuters oracle said the market is on an "unsustainable course," with no cushion for risk and few new sources of supply to meet the expected swell in demand during the summer. That could spell trouble ahead. Already, President Trump has suggested that oil prices may be too high, an indication he may be growing sensitive to consumer strains. That's becoming apparent as the U.S. economy grew at its slowest pace in a year in part because of lower consumer spending. That could be an indication of emerging demand trends and, from Kemp, "the higher prices rise and the longer they are expected to stay high, the bigger the eventual response from oil consumers."

Last week saw some of the geopolitical risk premium fade in response to historic handshakes on the Korean peninsula. Speaking on the thaw, U.S. Vice President Mike Pence said it was a small step that was big on talk, but short on action. Any move by North Korean leader Kim Jong Un, he said, "will be met with reservation, vigilance, and verification." And with the May 12 decision on Iran, reservation may be the operative word given doubts cast over the Joint Comprehensive Plan of Action. Why deal with North Korea on nuclear issues if the Trump administration is willing to walk away from the JCPOA? If Kemp is right, there may be an economic pitfall ahead as consumers shrink away from the higher oil prices that are likely to come.

With its balancing act, OPEC may now be caught in a pickle. Oil prices may be stuck now, but start to spike in the second week of May in anticipation of Trump's next move. Though OPEC leaders are adamant that they're not it in for the price, there may be a looming game of chicken as the price curve points to a moment where over- or under-steering could leave the market in the ditch.

Risk level: Yellow - Elevated

RED: Severe (+/- 4%) ORANGE: High (+/- 2%)  YELLOW: Elevated (+/- 1%)  BLUE: Guarded (+/- ½%)

We see some moderating trends in the risk premium for crude oil prices, though the line should still hold Brent crude oil in the low $70 per barrel range.

Fundamentals drove most of the rally in crude oil prices, with the U.S. Energy Information Agency reporting a drain on domestic inventories even as production continues to grow. Higher refinery runs and reduced imports contributed to the draw. By Friday, Schlumberger Chairman and CEO Paal Kibsgaard said global stocks weren't building in the first quarter and the oil market was clearly balanced.

But then U.S. President Donald Trump said the price of oil was too high, and artificially so, and Brent tanked for most of the morning before recovering ground by the close. For the week, however, oil prices were up roughly 3 percent, in line with our forecast from last week.

In Saudi Arabia, members of a committee monitoring the agreement said OECD commercial stocks declined 300 million barrels from their July 2016 levels, though more work was needed as inventories were still above the mark before the price of crude oil dropped below $30 per barrel. That would indicate sustained commitment with the agreement, though Kibsgaard cast a cloud over diminishing supply-side pressures by expressing concern about upstream weakness in the face of an "impending deficit" in crude.

On risk factors, North Korean leader Kim Jong Un declared victory while at the same time lauding a "fresh climate of détente and peace" on the Korean peninsula. Since the Winter Games, Kim's rhetoric has permeated more deeply into the international conversation in ways that would seem to thaw regional tensions. Ahead of possible direct talks with Trump, a first with a sitting U.S. president, he said Pyongyang would no longer need to test nuclear devices, intermediate or intercontinental missiles. Why? Because he sees North Korea as a nuclear-weapons state, putting the isolated regime in the same arena as the world's superpowers. The international relations theorist Hans Morgenthau said once that a state is a superpower if it's treated like one and clearly Kim feels his meetings in Washington mean that for him.

At the height of the tensions last year, when Kim was called Rocket Man by President Trump, the price of crude oil jumped more than 2 percent. "Détente and peace" may carry uncomfortable nuclear undertones in that North Korea is unlikely to denuclearize, but it beats trading insults with a finger on the button.

Meanwhile, some recessionary bells may be ringing for the world's leading economies. International Monetary Fund managers last week spent most of their Spring Meeting in Washington warning that protectionism could undermine the growth that's been obvious over the last few years. Trump's message to OPEC last week may have indicated a sign that consumers are getting squeezed by higher oil prices. Temporary tax relief for American consumers is going in the gas tank now, wage growth is lackluster and, by the IMF's read, most people aren't enjoying the benefits of economic growth. That means that, while supply-side pressures may be fading, demand could also weaken.

With a risk premium fading on signs of nuclear de-escalation, the trend for the price of crude oil could cool off ahead of the May decision from Washington on the Iranian nuclear deal. We give the market a code yellow as we expect the price for oil to search for direction in the coming sessions.