Oil Prices Slide on Iran Nuclear Deal

4 minute read

Crude oil prices are testing three-month lows after Iran struck a deal that will lead to the lifting of international sanctions on its struggling economy in return for curbs on its nuclear program.

The benchmark futures contract for U.S. crude fell by over a dollar a barrel in early trade in Europe Tuesday after negotiators confirmed that they had struck an agreement after years of fraught talks.

The gradual end to sanctions foreseen under the deal will allow Iran, which has the world’s third-largest oil and gas reserves, to attract investment into its long-isolated energy sector, adding to world oil supplies at a time when the market is already “massively oversupplied”, according to the Paris-based International Energy Agency.

The Financial Times reported in June that European oil majors such as Royal Dutch/Shell [fortune-stock symbol=”RSDA”] and Italy’s Eni SpA [fortune-stock symbol=”E”] have already visited Tehran, with a view to clearing old debts and paving the way for new deals.

That’s bad news for U.S. shale oil producers, which have struggled to adapt to a world of lower prices since Saudi Arabia pushed the Organization of Petroleum Exporting Countries into a fight for market share at the end of last year.

However, it’s not the Iran deal per se that’s the bad news, but the fact that it adds to a list of factors that have stopped the rebound in oil prices in its tracks in the last couple of weeks.

“Onshore storage space is limited. So is the tanker fleet. New refineries do not get built every day. Something has to give,” the IEA wrote in its latest report on the world oil market. That something, it added, is most likely to be U.S. light, tight oil.

Analysts at Wood Mackenzie estimate as a base case that Iran will only add 120,000 barrels a day by the end of the year to the 2.7 million it currently produces. That’s little more than a drop in the bucket next to the surge in output that’s already happened this year as Saudi Arabia, smaller Gulf producers, Russia and Brazil have pumped furiously to ensure they keep their share of the pie.

WoodMac reckons that it could add a total of 600,000 b/d by the end of 2017, with 260,000 b/d coming next year and another 220,000 b/d the year after. That’s based on the assumption that sanctions are fully lifted by the middle of 2016.

Iran itself wants to increase its oil output to 5 million barrels a day by the end of the decade. That may seem ambitious, but Iraq has managed a similar increase since the toppling of Saddam Hussein despite having to cope with the constant chaos of civil war and, more recently, the rise of Islamic State.

If the deal holds, and Iran can overcome its diplomatic isolation for good, then it seems destined to have a major impact on global supplies in the long term. Over three-quarters of its recoverable reserves are still to be developed–and most can be developed without the state-of-the-art technology required in most new oil producing regions, whether in shale formations or offshore.

That can’t help but have an impact on the math for the U.S. shale industry. So far, the weaker companies in the sector have relied largely on new stock issuance and drastic cutbacks in investment spending to ride out what they hoped would be a temporary setback. If Iran ever starts to realize its full potential as a producer, the sector will have to accept that prices are going to stay lower for longer.

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