Deal with Iran will squeeze oil prices

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A tentative deal between Iran and the West opens the door to restoring Iran's status as one of the world's biggest oil exporters, putting more downward price pressure on a market that has switched from fears of energy shortages a few years ago to concerns of oversupply.

Oil prices fell more than 2 per cent at one point on Monday after Iran reached a deal with six world powers, led by the United States, to halt its uranium-enrichment program in exchange for the relaxation of sanctions that have pushed Iran's oil-based economy into deep recession.

Oil exports are the lifeblood of the Iranian economy, and the country's potential output represents a major swing factor in the global oil supply and demand picture. The latest round of sanctions pushed exports down to about 1.3 million barrels a day from 2.5 million in 2011. Before the 1979 revolution, its exports were as high as six million barrels a day.

The Facts Global Energy consultancy said the easing of insurance sanctions on shipping could boost Iranian exports immediately by as much as 400,000 barrels a day, according to the Financial Times.

The prospect of substantially increased Iranian exports comes as oil markets are already under downward pressure because of a combination of rising exports in some countries, notably Libya and Iraq, soaring shale oil production in the United States, and increased automobile fuel efficiency, which is improving by about 2.5 per cent a year.

"With new domestic output capacity coming on line, plus the potential re-emergence of Iranian barrels coming onto the global market, the table is set for lower prices over the longer term," energy analyst Stephen Schork said in a market commentary.

Earlier this month, the International Energy Agency said that ever-rising shale oil production will allow the United States to surpass Saudi Arabia and Russia as the top producer by 2015. The IEA said American oil production will rise to 11.6 million barrels a day in 2020, up from 9.2 million last year. Saudi production over the same period is expected to fall to 10.6 million barrels from 11.7 million, while Russia's will slip marginally to 10.4 million.

Any major Iran-related effect on the market, however, will likely be gradual. Oil prices recovered lost ground Monday as traders took the view that the interim deal will not allow Iran to spew oil onto the global markets immediately. In late trading, West Texas intermediate crude, the North American benchmark, ended down a little more than 1 per cent, to $94 (U.S.) a barrel. Brent crude, the international benchmark, finished down one-third of 1 per cent, to just under $110.

Iran's oil exports are not expected to rise substantially until a comprehensive deal is agreed with the Iranians that would allow it to rejoin the world trading system. Sanctions against the country have been in place, with varying degrees of severity, since the fall of the Shah in the 1979 Islamic revolution. Until a permanent, comprehensive deal happens, tight restrictions on oil exports, such as the ban on exports to the 28-country European Union, will remain in place.

The interim deal eases or suspends restrictions on the trade of gold and other precious metals, auto and airplane parts, and petrochemicals. The Iranian media reported that the West will also suspend sanctions on insurance and transportation services. If so, countries such as China and Japan, whose sanctions waivers allow them to buy Iranian oil, should be able to insure ship-borne cargoes, allowing them to increase their imports.

Falling oil prices are bad news for the Alberta oil sands, whose output already trades at a substantial discount to American and world prices. It is also hurts countries whose budgets are funded by oil and gas exports, such as Russia. In a note, Chris Weafer, analyst and senior partner at Moscow's Macro-Advisory Ltd., said the Iranian deal "adds to concern that further, more significant, price weakness may deteriorate Russia's budget execution in 2014 and add downward pressure on the ruble."

Weaker oil prices sent the shares of oil companies down, but not by much. BP PLC, the British oil giant whose roots go back to Iran, fell 0.7 per cent while oil sands giant Suncor Energy Inc. lost 1.7 per cent. Shares of companies that are big users of oil products went in the opposite direction. International Consolidated Airlines Group SA, owner of British Airways and Spain's Iberia, rose almost 3 per cent. European discount carrier easyJet PLC climbed 2 per cent.

With files from Associated Press