The memorandum of understanding approved by the U.S. and Iran will fully reopen the Strait of Hormuz on Friday, but fixing the biggest oil disruption ever will take longer than creating it.
In just three months, global supplies lost around 2 billion barrels of oil, forcing the biggest energy-consuming countries to tap their reserves at a record pace and enforce rationing.
While energy markets were surprisingly resilient, prices still soared and chaos ensued. Oil was diverted, drilling stopped, other suppliers increased their exports and thousands of tankers were diverted to other ports.
With the Strait of Hormuz set to reopen, Wall Street is waiting to see how quickly traffic will recover, especially given the risks of underwater mines and renewed fighting.
“Furthermore, even if ships now have safe passage, tankers are in the wrong place, and questions remain about the cost and availability of insurance for ships transiting the Strait,” Jason Tuvey, deputy chief emerging markets economist at Capital Economics, said in a note on Monday. “We expect around 80% of energy flows to resume by the end of the third quarter, but a return to ‘normal’ could take until 2027.”
Many tankers have been diverted to pick up their cargo elsewhere and crossing oceans to return to the Middle East can take weeks.
Another factor in the oil trade is the number of ships entering and leaving the Persian Gulf. After the strait was first closed, Gulf producers stored the oil they produced because they could no longer export as much.
Since prolonged production interruptions can lead to permanent damage to oil wells, shutting them down is usually the last resort. But the storage quickly ran out, forcing producers to cut back on production.
Hamad Hussain, climate and commodities economist at Capital Economics, noted in a separate note on Monday that tankers need to replenish their Gulf supplies so that idle production can resume.
The good news is that if the Strait of Hormuz remains open and destocking slows, markets should avoid some of the dire forecasts previously feared, Hussain said. The bad news is that healing will take a while.
“All in all, while there is now a reduced risk of adverse scenarios, energy supplies from the Gulf are likely to remain constrained for several months and this will limit the scope for further price declines,” he added.
Furthermore, cCountries that have depleted their oil reserves in the last three months will also begin rebuilding to prepare for another supply shortage in the future. That will increase demand, which will fall again as prices fall and governments ease rationing policies.
China will be closely watched because it aggressively replenished its inventories in the years leading up to the Iran War, and it will be widely watched for how it kept oil prices in check during the war by opening the tap to all of those supplies.
However, analysts at Oxford Economics said oil production could keep pace with the recovery in Hormuz traffic – as long as security conditions improve.
“The incentive to restore production is high and there appears to have been no significant damage to core production facilities,” it said in a statement. “This suggests that the main constraint is likely to be shipping, insurance and operational confidence rather than underlying production capacity.”