One Bank’s $30 ‘Uber-Bearish’ Oil Scenario And A ‘Worrying Asymmetry’

WTI got a nice pop from the biggest crude stockpile draw since 2016 on Wednesday and looks poised to push back through $60 ahead of the G20.

Crude of course plunged into a bear market late last month amid global growth concerns and swelling US supplies. Until things really heated up in the Mideast, prices largely ignored mounting geopolitical tensions, supply risks and the OPEC+ “put”, trading instead off the macro narrative, which increasingly points to demand destruction.

The downing of a US drone and the attendant prospect of an actual shooting war between the US and Iran finally managed to push prices sharply higher. Last week, WTI surged by nearly 10%.

But will the flare-up in the Mideast and OPEC+’s commitment to keep prices stable be enough to keep crude from plunging anew? Maybe, but maybe not. BofA’s Francisco Blanch is in the news on Wednesday after he went on Bloomberg TV and said this:

The trade issue and the Iran issue become the same issue, and that ends up creating a $30-a-barrel scenario for oil prices. You get an extra 2 million barrels from Iran and demand collapses, where do you think prices are going to go?

Well, down, obviously. Blanch cited the possibility that a further deterioration in relations between Washington and Beijing could prompt China to devalue the yuan and thumb its nose at US demands to reduce imports of Iranian crude to zero.

Blanch has outlined this “uber-bearish” thesis before.

“Keep in mind that Iran has historically been China’s number 3 supplier, so recent curtailments in Iran oil imports to comply with US sanctions suggest that China is still serious about getting a trade deal done”, he wrote in a June 14 note, before reminding everyone that “after the initial reduction in Chinese purchases in November, China recently dialed imports of Iranian crude back up”.

(BofA)

Was that surge a one-time thing? Perhaps. But BofA suggests it “could be a symptom of the trade war trenches getting deeper with recent escalation in bi-lateral tariffs.”

In his chat with Bloomberg, Blanch reiterated that the “uber-bearish” scenario is not the base case, but he hedged, saying it’s “not crazy” either.

Additional escalations in the trade war could deep-six demand by weighing further on the outlook for global growth. “It could also encourage Iran-China co-operation”, Blanch wrote earlier this month, adding that “if Chinese refiners start to purchase Iran oil in large volumes on a sustained basis as US tariffs rise again, WTI could drop to $40/bbl.”

(BofA)

On Wednesday, Tasnim said a tanker owned by National Iranian Oil Co. delivered crude to Chinese customers, marking the first delivery since the US refused to extend waivers that expired on May 2. More ships loaded with Iranian crude are expected to arrive in China over the coming weeks, Tasnim said, without citing anyone.

Meanwhile, Deutsche Bank wrote in a note dated Tuesday that the Iran tensions present a potentially serious asymmetry.

“China is far more exposed to a disruption in Middle East production than the US, as imports from the region represent a much greater share of energy consumption… not least as Chinese oil imports from the US itself have declined due to the US/China trade dispute itself”, the bank wrote, on the way to cautioning that “the significance of Qatari LNG exports to China mean that transport links through the Gulf are central to Chinese energy security in a way they are not for the US”.

(Deutsche Bank)

Deutsche goes on to say that while this isn’t their base case, you could argue that “a shock to Middle Eastern oil production could benefit the US administration more than tariffs”. That’s because unlike tit-for-tat levies and non-tariff barriers, the impact of a Mideast disruption “would be more pronounced on Beijing , while the effects on the US economy could actually be net positive in the long run, should it encourage greater production through higher prices”.

Over the past two weeks, Trump has repeatedly suggested that the US need not go out of its way to ensure safe passage through the Strait of Hormuz. “China gets 91% of its Oil from the Straight” [sic] Trump said Monday, on the way to asking “Why are we protecting the shipping lanes for other countries for zero compensation?”

In any event, this is a lot to ponder, and it’s complicated by Trump’s insistence on keeping oil prices low. It would be some irony if BofA’s “uber-bearish” thesis plays out and Trump is faced with the absurd task of reconciling the positive externalities from $30 crude (e.g., lower prices at the pump and downward pressure on inflation) with China flouting US demands by importing Iranian oil and thereby providing a critical financial lifeline to Tehran.