Strait of Hormuz crisis constrains commodity recovery potential

Despite the IEA announcing the largest strategic stockpile release in history, the ultimate price trajectory will likely hinge on when the U.S. can ensure the security of the Strait of Hormuz. Setting aside recent rhetoric, there are no indications yet that the U.S. Navy is poised to commence an operation to ensure freedom of navigation through the critical waterway. The 1987 U.S. escort operation was an extremely complex affair done in coordination with the UK and France and involved more than 30 ships in the region at its peak.

Meanwhile, the risk to tankers and ports appears to be rising by the day. Notably, fuel storage facilities in the port of Salalah in Oman were hit, drawing condemnation from the country's leadership, citing its neutral status. Moreover, two tankers in Iraqi waters off the coast of Basra were reportedly struck by small boats laden with explosives late on Wednesday, following three cargo ships being hit by projectiles in the Strait earlier in the day. A formal Houthi entry into the conflict would imperil the security of the East-West Pipeline and Yanbu port, which is the main alternative export route to the Strait of Hormuz.

While the IEA has decided to release 400 million barrels from the group's strategic oil reserves, with commitments from Japan, South Korea, France, Germany, the UK, and the U.S. announced thus far, the market impact of the move may prove limited. Supplies will be constrained by the pace at which oil can be extracted from reserves, with low single-digit mb/d release rates largely expected, and the ratio of crude to products remains unclear. With direct risk to regional energy assets rising and the potential for further shut-ins continuing to grow, the duration of the conflict could further undercut SPR assistance.

The closure of the Strait of Hormuz has reached a new stage, as the prolonged disruptions have driven incremental shut-ins of production and now seemingly exhausted further loading capabilities. On Monday, our data suggested that only a handful of tankers were still loading cargoes in the waterway, and as of Tuesday, those remaining vessels have received oil and joined the standstill fleet of oil on water in the Strait. This suggests that, even if ports sought to continue to push crude, there would not be tankers available to take the volumes. While there are reports of a few Iranian and Greek tankers navigating the passageway, these are negligible in the context of the volumes stuck and now disrupted. As the closure has continued, static tankers previously observable via the sharp uptick in oil on water in the region are now appearing in floating storage data, as they have begun to meet the duration criteria for changing classification.

“Even if ports sought to continue to push crude, there would not be tankers available to take the volumes.”

Christopher Louney, Energy, Metals and Commodity Strategy and MENA Research Analyst, RBC Capital Markets

Natural gas prices are experiencing some upside from headline risk, but there may be limited scope for more as LNG feedgas nears maximum capacity and three-month outlooks point to a warmer spring. Utilization rates for liquification facilities hit 96% in February. At the same time, elevated temperatures have eased pressure on inventories, with February ending 22 heating degree days below normal and this week forecasted to be 70 HDD below the long-term normal. The three-month outlook points to an even warmer spring than last month's forecast, with dry conditions exacerbating the shift. While headline risk may continue to push and pull U.S. gas prices over the duration of the conflict, we believe this will remain in a restricted range until real demand drivers begin to pull on supply.

While gold overall has not gained to the level that some people expected on the back of the ongoing conflict in Iran, there are reasons. Near-term moves in the dollar and yields have played a role, as well as a perceived lack of an immediate need for a general-purpose hedge given the clear line from the crisis to energy markets. However, as the market gyrates between concerns around a prolonged conflict and headline-induced optimism for an end “soon,” a familiar scenario is possible in which gold benefits more sustainably simply on the back of uncertainty. Additionally, if this conflict indeed has a more inflationary duration, gold would likely benefit.