Pimco's 4 "Iran Invasion" Oil Price Scenarios: From $140 To "Doomsday"

Tyler Durden's picture

Pimco's Greg Sharenow has released a white paper on what the Newport Beach company believes are the 4 possible outcomes should Iranian nuclear facilities be struck as increasingly more believe will happen given enough time. The conclusion is sensible enough "Whenever the global economy is in a fragile state, as it is today, geopolitical concerns such as the possibility of a strike on Iran’s nuclear facilities become much more exaggerated. Although we cannot (and will not) predict whether an attack is imminent, or even likely, our experience and research tells us that any major disruption in the supply of oil from Iran could have either subtle or profound global repercussions – especially as excess capacity is virtually exhausted and we doubt that other OPEC nations would be able to compensate for a reduction in Iranian oil production." As for those looking for numbers associated with the 4 scenarios presented by PIMCO here they are: "i) Scenario 1: Exports minimally effected. Concerns would drive initial price response; Oil could spike initially to $130 to $140 per barrel and then settle in a higher range, around $120 to $125; ii) Scenario 2: Iranian exports cut off for one month. In this case, we would expect prices could reach previous all-time highs of $145/bbl or even higher depending on issues with shipping; iii) Scenario 3: Iranian exports are lost for half a year. We think oil prices could probably rally and average $150 for the six months, with notable spikes above that level; iv) Scenario 4: Greater loss of production from around the region, either through subsequent Iranian response or due to lack of ability to move oil through Straits of Hormuz. This is the Armageddon scenario in which oil prices could soar, significantly constraining global growth. Forecasting prices in the prior scenarios is dangerous enough. So, we won’t even begin to forecast a cap or target price in this final Doomsday scenario." Needless to say, even the modest Scenario 1 is enough to collapse global economic growth by several percentage points to the point where not even coordinated global printing will do much.

From Pimco:

Playing ‘What If?’ with Oil Prices and a Potential Strike on Iranian Nuclear Facilities
  • ? The market has less “cushion” than it did earlier this year due to significant production outages and relatively strong non-OECD demand, leading to sharp draws on inventories.
  • Excess capacity is virtually exhausted and we doubt other OPEC nations would be able to compensate for a reduction in Iranian oil production.
  • In light of these possible oil price spikes, investors should evaluate how their portfolios might be affected by a sudden or sharp burst of inflation.

? There has been a lot of market chatter over the past few weeks regarding a potential Israeli strike on Iranian facilities. The market’s focus on the region has been heighted by the latest International Atomic Energy Agency (IAEA) report on Iranian nuclear activities. All of this could have significant and direct implications for the oil market and secondary implications for the global economy, depending on which scenario actually plays out. Further, given the heightened level of geopolitical instability around the globe, the conclusions we can draw by evaluating this particular situation may be useful when assessing the danger of other potential or realized supply disruptions. Although we cannot (and will not) predict whether an attack is imminent, or even likely, it is important to analyze the potential outcomes to prepare portfolios for tail risk events.

Today, markets are much more vulnerable to significant price spikes stemming from a new supply disruption than they were during the 1990/1991 Iraqi Invasion of Kuwait or even 1980 Iran-Iraq War. Due to significant production outages and relatively strong non-OECD demand leading to sharp draws on inventories this past year, the market also has significantly less “cushion” than it did earlier this year when the Libyan conflict began.  Therefore, any event could pose a formidable risk to the global economy (e.g. a real supply disruption scenario would require higher prices to lower demand in order to balance the market). This could come at a time when the global economy, or at least the developed world, is facing fiscal headwinds and limits on monetary policy

Excess Capacity Nearly Exhausted 
The sad fact is that the market is running at extremely high capacity utilization. Core OPEC countries (Saudi Arabia, Kuwait and UAE) are producing at their highest level in decades. Saudi Arabia is the lone producer with any real excess capacity, most of which is untested. Inventories currently are low, falling below the five-year average for the first time since 2008, and have been drawing quickly. Most of the “excess” stocks in the commercial data are in the U.S. mid-continent and are not available for consumption as they went to fill base storage in tanks and to fill pipelines. Commercial inventories would be even lower if not for the OECD’s release of 35 million barrels of strategic reserves this summer. This limited current excess capacity differs greatly from prior supply shocks when a combination of OPEC producers, particularly Saudi Arabia, stepped in to replace most of the lost output.
 
Iran currently produces 4.0 million barrels per day (b/d) and exports 2.3 million b/d of total hydrocarbons. This is roughly twice the amount Libya exported before it halted production and exports this past spring. Further, the scale of oil demand loss needed to match a loss in exports from Iran is roughly comparable to the peak loss in demand realized during the depths of 2008/2009 recession. Note, peak loss in output in the 1990/1991 Iraqi invasion of Kuwait was roughly 4.5 million b/d and the peak loss of output from the Iran/Iraq War was also roughly 4.5 million b/d. We estimate that the loss of Libyan oil added roughly $20 per barrel to prices over the past six months.
 
We doubt that other OPEC members will be able to replace lost Iranian exports and we are concerned that they are at risk for lower, not higher, output. While Saudi Arabia will likely respond by boosting output, we estimate excess capacity is unlikely to be much higher than 1.5 million barrels per day. The big problem is that Saudi Arabia has limited export capability to the Red Sea and relies on the perilous Strait of Hormuz for most of its crude oil exports. A total of 16 million barrels of oil exports through the Strait of Hormuz each day, in addition to liquefied natural gas (LNG) exports from Qatar. While the U.S. military presence should keep the Straits open (gulp), the market will initially be very afraid of larger losses. The new Abu Dhabi Crude Oil Pipeline (ADCOP) project to go into service shortly will only relieve a fraction of the bottleneck should one develop.
 
Further, any threat of problems might lead insurers to remove coverage or greatly increase costs for tankers heading into the Arabian Gulf, which would grind a significant portion of exports to a halt until the risks are truly reduced. Iraqi and Iranian export terminals are also fairly close to one another, creating risk to an additional 1.7 million b/d of exports. Lastly, Iran’s allies pose an additional threat to onshore output throughout the MENA region. The point here is not to project these as likely events, but rather to talk about the calculus the market will go through if they occur. 
 
Strategic Reserves Could Offer One Major Offset
The International Energy Agency (IEA) has 1.5 billion barrels of oil in strategic reserves, built up following prior supply shocks. Non-OECD consumers (mainly China) have another 150 million barrels. This is a non-trivial amount of oil and we would expect the IEA to immediately spring into action should output actually be lost, and to verbally assure the market that the supplies are available should disruption occur. Any stock release will slow price increases, but will likely also lead to more back-end buying, over time, as stocks will be replenished. Relying on IEA is no panacea; it will simply serve as a buffer.
 
Duration and Severity of Disruption Matters
Given low spare production capacity and reliance on strategic stocks, the duration and severity of any disruption would be an important determinant to the path of oil prices. It is conceivable that no output would be lost at all because it is in Iran’s interest to still receive oil revenue. The timing of the price hike would also depend on the extent the market was surprised, should an attack occur. For the 2003 U.S. Invasion of Iraq, prices rallied before the invasion and peaked shortly after the war began as the invasion was so well publicized and retreated once the market was assured that Saddam Hussein did not set Iraq’s wells on fire like he did in Kuwait a decade earlier. It was not until a few months later when Chinese oil demand accelerated did oil prices begin a steady upward trend that lasted for over a year. 
 

Below we outline four hypothetical scenarios for output and prices that could materialize if Israel attacks Iran’s nuclear sites. Again, we emphasize that we are not predicting the likelihood of Israel’s action or inaction in any way. 

  • Scenario 1: Exports minimally effected. Concerns would drive initial price response. IEA would likely make statements about willingness to meet any shortfall in supplies. Oil could spike initially to $130 to $140 per barrel and then settle in a higher range, around $120 to $125, in relatively short order as a premium (mostly a risk premium) becomes embedding into the market, at least for a while. The timing of the spike would depend on how much the market is taken by surprise and whether or not the strike is priced in ahead of time.
  • Scenario 2: Iranian exports cut off for one month.  IEA would likely swing into action and Saudi Arabia could begin to offer more oil into market. In this case, we would expect prices could reach previous all-time highs of $145/bbl or even higher depending on issues with shipping. The IEA and Saudi Arabia can meet market needs, but the increase in uncertainty and the loss of spare capacity would affect pricing. In this case, after a few months, we would expect prices could fall back to $130 to $135/bbl range.
  • Scenario 3: Iranian exports are lost for half a year. This is where the potential outcomes get quite dicey. We think oil prices could probably rally and average $150 for the six months, with notable spikes above that level. The IEA would likely release oil steadily, but consumption will need to take a hit from prices and slower economic activity. Once Iranian crude oil returns to the market and the environment stabilizes, oil would likely return to around $110/bbl or even lower depending on global strength at the time.
  • Scenario 4: Greater loss of production from around the region, either through subsequent Iranian response or due to lack of ability to move oil through Straits of Hormuz. This is the Armageddon scenario in which oil prices could soar, significantly constraining global growth. Forecasting prices in the prior scenarios is dangerous enough. So, we won’t even begin to forecast a cap or target price in this final Doomsday scenario.
Takeaway: Be Prepared with Active Portfolio Management
Whenever the global economy is in a fragile state, as it is today, geopolitical concerns such as the possibility of a strike on Iran’s nuclear facilities become much more exaggerated. Although we cannot (and will not) predict whether an attack is imminent, or even likely, our experience and research tells us that any major disruption in the supply of oil from Iran could have either subtle or profound global repercussions – especially as excess capacity is virtually exhausted and we doubt that other OPEC nations would be able to compensate for a reduction in Iranian oil production.
 
Of course, the severity of any impact on the global economy would depend on several factors, including possible intervention by the IEA, the duration of the supply disruption, and the degree to which any attack takes the market by surprise. Therefore, we continue to monitor the situation closely and look to PIMCO’s worldwide research and intellectual capabilities to help investors better prepare their portfolios to withstand any of the scenarios that may eventually materialize. In light of these possible spikes in oil prices, investors should evaluate how their portfolios might be affected by a sudden or sharp burst of inflation.

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RobotTrader's picture

Los Angeles gas prices continue to crash to new 9 mo. lows.

http://66.70.86.64/ChartServer/ch.gaschart?Country=Canada&Crude=f&Period...$/G

No wonder WMT, HD, LOW are outperforming.

Retail spending going wild.

CPL's picture

Greg...keep working on the site.

Mr Lennon Hendrix's picture

Robo doesn't know what a spread means.

Margin compression, bitchez.  The American consumer can't afford the high price, but supply/demand+"easy" monetary policy is dictating a higher price/barrel.

You want to see a trade unwind?  Watch when the price at the pump catches back up to it p/b.  It will happen so fast people won't won't see it coming.  Most likely, the pump price will jump the week of the 19th, and also likely, the p/b will jump then too.

Basically $5 gas is right around the corner and America is not prepared for it.

Bicycle Repairman's picture

$5 gas = fatal heart attack for real economy and a change in Presidents.  $5 gas will happen over Barry's dead body.  Should be interesting.

i-dog's picture

 

"$5 gas will happen over Barry's dead body"

So, there is a bright side to it!

Mr Lennon Hendrix's picture

Barry doesn't want another term.  He wants to take naps, golf, and watch ESPN without having to ever put on a suit.

redpill's picture

That certainly hasn't stopped him up until this point.

DosZap's picture

Mr Lennon Hendrix

Great think your dead wrong,(IMHO) but I prefer your take.

HE is never going to give up that office.He's our last duly elected, and our first Dictkaker.

HungrySeagull's picture

Nah. Make it 14 or so when Walmart finally halts the trucks.

SheepleLOVEcheddarbaybiscuits's picture

right,this guy will wait till he gets a second term, THEN he will wage war cause he knows he cant get another term. All bets are off if this commie gets another term. It will bring Amerika to its knees.

constitutionalist's picture

oh good, we're not on our knees yet? i could have sworn we were all laying on the floor with our hands behind our backs already..

DanDaley's picture

Like the song says, You ain't seen nothin' yet!

redpill's picture

The Iran war drumming is becoming absurd.  I hope all the lefties are paying attention.  "The one they've been waiting for" in the White House is playing the exact same game of militarism that we saw less than a decade ago with Iraq.  There's plenty of parties involved that would like a good war to distract from all this.  The Iranian government would be fine with it, so they lose a couple million people, but the ones that survive will be much more loyal to them with such a formidable external enemy present.  And Saudi Arabia's leadership wouldn't mind, the Wahhabis never mind seeing a few impure Shiites get some bombs dropped on their head, and plus they get to sell their oil at elevated prices and get even richer. Israel obviously would be a cheerleader as well.  Domestically the war would have smirking support from the Krazed Keynesian Krugman left, who see a vast military conflict as a life preserver for their failed economic religion, not to mention President Barack "Kinetic Military Action" Obama who would suddenly pretend to be a reluctant leader of the US War Machine as he tries to unify support ahead of the election whilst ordering countless more Tomahawks and bombs from the giddy "defense" industry.  And he'd probably get a fair amount of support from sheeple Americans who don't like Ahmadinejad or figure we might as well continue our "War on Terrah" in the next "towel head country"

And who would be against it?  Individual Americans who can't do much about it except vote, only to realize it will be far too late.  And if the GOP nominee winds up to be someone like Gingrich, you can expect more healthy doses of militarism to come even if Obama loses next year.

This is the ugly world of death we live in.

 

High Plains Drifter's picture

http://www.youtube.com/watch?v=_lbYrDCDeKc&feature=related

 

and now a word about internal iranian politics and culture.....

 

it is amazing , how similar, really similar islam is to talmudic judaism, in so many ways...........hmmmm..

Iwanttoknow's picture

Drifter,Sure Islam has it's flaws.But it is very,very different from Talmudic judaism.Read David Duke.

kridkrid's picture

It's all so remarkable.  We can elect the same exact leader... same actions... same policies, foreign and domestic, window dressing aside, yet almost everyone who identifies with one party vs. the other is blinded to the reality.  Even if they don't buy the lie 100%, the "lesser of two evils" lie is just a punch card away.  Amazing the control.

Ying-Yang's picture

Ra ra siss boom bah Go Newt... no really go Newt, yeah we really want you to go home or help Robo out at Tiffany's.

"Dr Paul to save us All"

LawsofPhysics's picture

Precisely why you will never see a popular vote allowed.  If voting actually resulted in change, it would be illegal.

Things that go bump's picture

Really, how can I take someone named for kind of salamander seriously? Just look at the face he is wearing! Besides that, he has already proven he is not to be trusted.  

SteveNYC's picture

I have this conversation with morons of both stripes all of the time. Sometimes, it is like living in a twilight zone as the depth of the brainwashing on both sides is inherently deep. Every time the "war" comes up I counter with one simple line: if you are so big into bombing said "towel heads", then you should have no qualms either committing yourself or your son/daughter to the war machine that is going to "liberate" or "protect" and so on.

It always ends the same way "my kid is in college" or "I'm too old" or "we can just bomb them, no need to put feet on the ground". If you choose to live by the sword, you will surely perish by it. Individuals, groups, countries. No exceptions.

redpill's picture

Regardless of how people feel about Ron Paul, the bottom line is that he's the only real peace candidate in this election who wants to stop this suicidal war machine that is bankrupting the country and making us hated across the world.

Flakmeister's picture

This isn't left-right bullshit...

This is Peak Oil playing out and the boys at the table can't admit what the game is about... We therefore get all kinds of misdirection, alterior motives.... What was that song?

"There's battle lines bein' drawn..."

 

kridkrid's picture

the left-right bullshit is what provides the cover for what really happens.  It's the charade that keeps people in the dark. 

Ratscam's picture

great article on rt.com. George Orwell,s guide to the news

http://rt.com/news/media-lies-global-elite-447/

El Viejo's picture

Wrong !!!

This is Sunni Shiite religious battle lines being drawn. And as usual the Russians are on the wrong side.

http://www.debka.com/article/21521/

 

IQ 101's picture

Mr Pill, please test drive my conspiracy theory,

Barry was installed by the neo cons in both parties, house of Rothschild, who works for the Jesuits, who work for the Pope , who works for the Queen, who works for the Aliens, (I'm still working on it).

The Venezuela / Iran alliance is threatend by an altercation near the Columbian border that draws the attension of the USA but Hugo Chavez succumbs to cancer and a brief revolution creates a pro US gov in Venezuela, (Who require US refineries to process their oil, anyhoo.)

And Venezuela comes with a fine gold dowry, too.

With Canadian, Mexican and Venezuelan oil, on top of it's own, Muddle East supplies become less threatening or relevant to the Western alliance ?

Just throwing around ideas based on the writing on the wall, hope you don't mind, but it is all that can be done at this point.

SilverBaron's picture

Not aliens.  Lucifer.

He also goes by the names: Allah, Krishna, Buddah, Baal, Baal-hadad, Osiris, etc.

It matters not if you don't believe in him because they do, and they are in controll.

redpill's picture

You don't need any conspiracies for this one.  Barry was perfect play-doh for the big money.  He comes from Chicago, so they knew he can be bought.  He's not really interested in policy, but rather just being "the man" who gets to strut around, read his teleprompter, and smile.  This was all supposed to go smoothly, he firmly put all his responsibility in the hands of people that were supposed to be the best at everything, and then he was told he was free to go golf and shoot hoops and it would all get handled.  He never really had a clue about the economy, policy, or anything else.  Which is why he was such a perfect fit.  The sheeple loved him in 2008, so it was an ideal situation.  From his perspective this was going to be a fantastic vacation, he doesn't have to really do anything because he's abdicated all actual policy decisions to others, and legislatively he's been in absentia, even when the Dems had the House.  He figures legislation isn't his problem, and now Congress is deadlocked on everything so there's no legislation to worry about, Hillary tells him who to bomb, the Fed controls fiscal and monetary policy, and the rest is just typical handout BS, more unemployment benefits, payroll tax cuts, easy giveaways.  He was supposed to be FDR helping us through the Bush-recession.  Instead it has gone catastrophically wrong, which is why he looks so confused these days.

ActionFive's picture

Gas price is odd- must want cash in consumer hand for Christmas sales.

Ying-Yang's picture

RoboTease.... we'll check back with you in a few weeks on retail stocks

Oh regional Indian's picture

Robot trader going Wilder. Jean Wilder?

Meanwhile the GOD's of war, Gold, Oil and Dollar are all shaping up for a big swoon.

Doomsday is not an event, it's a culmination, a climax.

ORI

/the-plan/ Updated

Spastica Rex's picture

Young Frankenstein?

edit: If I had a blog, I would troll my own site to generate discussion.

Oh regional Indian's picture

Ahaha! Very nice Spastica Rex. Very nice! :-)

Mutating strain.

ORI

Edit: To each his own, eh? And perhaps you should write your own blog. You clearly are a wit.

Spastica Rex's picture

The blog comment was not directed at you.

I read your stuff with great interest. Really enjoy your music. I do feel somewhat trapped in a Western brain.

Oh regional Indian's picture

Oh cool! Good to know! :-) The admiration is mutual.

I heard a Dobbs Man talk at Burning Man in 2004. As you can imagine, it was quite a trip.

ORI

CPL's picture

DOGs of War sounds better.

SheepDog-One's picture

What do you care about gas prices Robotarder did your bus pass expire?

Max Hunter's picture

There could be numorous "unintended" consequences not listed.. For instance, if Iran is attacked, the Muslim world could say -enough is enough- and do everything they can to cripple the oil production in the entire region (through sabotage).  The only way the ME countries could defend themselves from the obvious western take over of their resources is to put every effort they have into crippling the war machine i.e. reducing petro exports anywhere and everywhere possible..  The only unknown is; when will the region collectively understand the dire situation they are in?

i-dog's picture

The "Muslim world" is divided into Sunnis and Shia ... and they hate each other. Only Iran has a Shia majority; Syria has a Shia minority (which TPTB wishes to eliminate). The rest of the oil states are Sunni and will simply watch from the sidelines ... or even assist NATO.

Calmyourself's picture

Absolutely, the Saudis have given permission for Israeli jets to overfly the kingdom on the way..

earleflorida's picture

yep,... and afghanistan's, kandahar province [air force base] afb to fly the sorties, and drones from jalalabad,afghanistan afb,... not to forget [leave-out] mentioning the shamsi afb [w.pakistan] in baluchistan

good ole israel,... i wonder if they'll do a two-fer and wipe out the 'gaza death camps' while their at it

what has iran done???

ps. they are a better known enemy than those scumbag "ARAB'S"!!!

jmo

constitutionalist's picture

im pretty sure they used to be persians as well. I guess they didn't do what they were told. I guess big gas companies/government can't push around the people who have gas already. i hope someday people will realize that NOT ONE MAN OR GROUP WILL RULE THIS WORLD. Its proven fact throughout history. we all need to look deeply into what the word "freedom" really means, because I dont think it means bullying the world for profit and bragging rights.

Iwanttoknow's picture

True.A lot of it has been fanned by the good old english i.e."divide and rule' and installing NWO puppets throuhout the sunni belt.

earleflorida's picture

the iraqi's are shiites (shiites are too  various religious belief as todays  lutheran's, and sunni's quite similar  catholic's[?])

jmo

ref: http://en.wikipedia.org/wiki/Shia_Islam

SystemsGuy's picture

Iraq was formed by England from the remains of the Ottoman empire in the 1930s, and is actually made up of three ethnic groups - Shia in the south, Sunni's in the central area around Baghdad, and Kurds to the north along the Turkish border. The division was artificial - the Kurdish clans were deliberately split between Turkey and Iraq in order to reduce their influence in either country.

Most of the Iraqi insurgency was led by Shiites with arms and financial support from Iran (that would LOVE to annex the south of Iraq, since not only is it ethnically similar, but happens to contain much of the oil in the country). The current Iraqi parliament exists primarily because of US support - and is remarkably fractious and unstable. Should Iran get attacked, it is very likely that the Shia minority in Iraq would use it as an excuse to escalate their own attacks in order to retake Baghdad.

Iraq is primarily desert. Iran is desert in parts, but for the most part it's terrain more closely resembles Afghanistan and Pakistan - mountainous, with comparatively few passes for running convoys into. It's an ideal country for guerilla warfare. Unlike the Saudis, the Iranians for the most part could very easily live without oil revenue for months or even years at a time. This makes committing to a ground war in Iran a fool's errand, and you could not defeat Iran from the air.

The same issue with regard to Shiite minorities also holds true in Saudi Arabia. The House of Saud are Sunni. Osama Bin Laden (a Saudi prince) was virulently anti-Shiite, regarding them in nearly as low a regard as he had for the West. However, a near majority of the (largely oppressed) population in Saudi Arabia are Shiites, though there is some ambivalence because the Iranians are Persians rather than Arabs. However, regardless if Iran was attacked, those same SA Shiites may very well take it as an opportunity to topple the House of Saud.

That's one of the reasons why any reasonable analyst is going to get twitchy when war with Iran is in the offing - there are simply too many unintended consequences that emerge out of it. From the West's standpoint, Iran is toppled, a friendly dictator rounds up the Iranian cleric and has them shot, and Iran's oil supplies go towards the West - very best case scenario, and overall a fairly unlikely one. From China's standpoint, an attack on Iran deprives them of one of their most regular suppliers of oil, and they will do anything and everything to retaliate - including finally making a stab at retaking Taiwan or prodding the North Koreans to attack Seoul. The Chinese consider Israel to be the US's proxy in the region, and an attack by Israel will be seen as an attack by the US (with a fair amount of justification). Russia sees Iran as the last major southern buffer to the US being in a position to attack it, and by some indications may in fact be indirectly funding the Pakistani Taliban (most ironically).

No - this isn't going to end well.

 

i-dog's picture

Thanks for setting out that excellent analysis. I totally agree.

Calmyourself's picture

Lets say the muslims do that, cripple oil production, they will use what to import the food they MUST have?