OPEC’s Oil Capacity Amid Iranian Tensions

By Maha El Dahan, Ahmad Ghaddar and Dmitry Zhdannikov

LONDON (Reuters) – OPEC has enough spare oil capacity to compensate for a full loss of Iranian supply if Israel knocks out that country’s facilities, but the producer group would struggle if Iran retaliates by hitting installations of its Gulf neighbours.

Iran fired hundreds of missiles at Israel on Tuesday in response to Israeli airstrikes and attacks. Israel’s Prime Minister Benjamin Netanyahu said Iran made a big mistake and would pay for it, while Iran threatened a crushing response if Israel retaliated.

Israel’s options include targeting Iranian oil production facilities among other strategic sites, U.S. news website Axios reported on Wednesday, citing Israeli officials. Iran is an OPEC member, producing around 3.2 million barrels per day or 3% of global output.

Iranian oil exports have climbed this year to near multi-year highs of 1.7 million bpd despite U.S. sanctions, with Chinese refiners buying most of its supply. Beijing states it doesn’t recognize unilateral U.S. sanctions.

“In theory, if we lost all Iranian production – which is not our base case – OPEC+ has enough spare capacity to make up for the shock,” said Amrita Sen, co-founder of Energy Aspects.

OPEC+, which includes OPEC and allies like Russia and Kazakhstan, has been cutting production in recent years to support prices amid weak global demand. Currently, cuts by OPEC+ producers total 5.86 million bpd, with analysts estimating Saudi Arabia could raise output by 3 million bpd and the United Arab Emirates by 1.4 million.

OPEC+ met on Wednesday to discuss compliance with cuts but did not discuss the Israeli-Iranian conflict. A source familiar with the discussions noted, “The only thing mentioned about the geopolitical situation and the conflict was the hope for non-escalation.”

While OPEC has sufficient spare capacity to compensate for the loss of Iranian supplies, much of that capacity is in the Middle East Gulf region and could be vulnerable if the conflict escalates further, noted Giovanni Staunovo, analyst at UBS. “The effectively available spare capacity might be much lower if renewed attacks on energy infrastructure on countries in the region happen,” he added, indicating that the West might need to tap strategic reserves if severe disruptions occur.

Israel has refrained from attacking Iranian oil facilities so far. Analysts believe Israel might target Iran’s oil refining sites and the Kharg Island oil port, which handles around 90% of the country’s crude exports. During the Iran-Iraq War in the 1980s, Baghdad regularly attacked tankers around Kharg Island and threatened to destroy the oil terminal.

“Iran and its proxies could potentially target energy operations in other parts of the region to internationalize the cost if the current crisis devolves into an all-out war,” said Helima Croft from RBC Capital Markets.

In 2019, a drone attack by Iranian proxies on Saudi oil processing facilities briefly knocked out 50% of the kingdom’s crude production. “In case of an escalation, Iran’s proxies might launch attacks on Middle East oil producers, namely Saudi Arabia,” noted Tamas Varga from PVM.

Riyadh and Tehran have had a political rapprochement since 2019, helping ease regional tensions, but relations remain strained.

Oil prices have traded within a range of $70-90 per barrel over the past few years despite the conflict between Russia and Ukraine and unrest in the Middle East. A rise in U.S. production has aided in alleviating the fear premium in oil markets, according to Rhett Bennett, chief executive at Black Mountain, which operates in the U.S. Permian basin.

The U.S. produces 13% of global crude and almost 20% of global oil liquid production, compared to OPEC’s 25% global crude production share and about 40% by OPEC+.

“This diversity of supply from U.S. domestic sources, combined with healthy spare capacity within OPEC, is translating into the market feeling insulated from a dramatic supply shock – regardless of perpetual Middle East flare-ups,” Bennett stated.

However, a broad conflict in the Middle East, with a significant impact on production, would inevitably push oil prices up, resulting in increased fuel costs. A related rise in gasoline prices could adversely affect U.S. vice president Kamala Harris in her campaign against Republican candidate Donald Trump for the Nov. 5 presidential election.

“The United States will likely try to push Israel for a more modest response, wanting to avoid a major escalation in tensions,” said Warren Patterson from ING.