What worries oil traders most as tensions rise in the wake of Iran’s missile attack on Israel is a potential disruption to the flow of crude oil in the Middle East – and when it comes to Iran, the export terminal on Kharg Island could be a key could be a target for the Israeli forces.
“Kharg Island is where Iran loads most of its crude oil exports,” said Matt Smith, chief U.S. analyst at Kpler. “That, as an objective, would cripple crude oil exports the most.”
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Contributing to a spike during Thursday’s session was US President Joe Biden’s response, when asked by the press whether he would support Israel attacking Iranian oil facilities, that discussions were underway.
Most of Iran’s crude oil exports are shipped through Kharg Island, which is located in the northeastern part of the Persian Gulf and is sometimes called Iran’s “oil island,” according to the U.S. Energy Information Administration.
An attack on the oil terminal on Kharg Island would have “the most disruptive effect, as approximately 90% of global Iranian exports would pass through those terminals,” said Gerard Filitti, senior advisor at the Lawfare Project. If that happens, he said, oil prices can be expected to “immediately rise more than 10 percent and continue to rise.”
Repairs at Kharg “would take months even under the best of conditions, and while Iran has other terminals, the distance and capacity of those terminals cannot replace Kharg production,” said Filitti, whose litigation experience extends to the oil and gas sector . industry.
A comprehensive attack on Kharg Island “cannot be underestimated,” he said. It would be “devastating for the Iranian economy, which depends on oil exports for access to US dollars and the global market.”
Iranian oil production averaged 2.82 million barrels per day in 2023, according to S&P Global Commodity Insights. The country’s oil fields contain an estimated 12% of the world’s total oil reserves.
Iran’s crude oil exports averaged almost 1.5 million barrels per day this year – almost half of oil production – and the country aims to boost its oil production capacity to 3.9 million barrels per day by 2025, up from 3.4 million barrels per day this year, Smith said.
Smith said Israel’s threat to attack Iran’s oil infrastructure “is more of a warning than anything at this point.”
Still, the oil market may already have almost priced in a scenario in which 1.5 million barrels per day of supply is taken offline by an Israeli attack on Iranian infrastructure, said Simon Lack, co-manager of the Catalyst Energy Infrastructure Fund MLXIX.
Members of the Organization of the Petroleum Exporting Countries could produce about 500,000 more barrels per day, while U.S. production could potentially increase by 250,000 barrels per day, he said. “So I think it’s manageable.”
Read: An oil shock? How OPEC+ can soften the blow if the conflict in the Middle East hits supply.
Kpler’s Smith, meanwhile, said that if Israel were to target Iran’s oil and gas infrastructure, the Abadan refinery near the Iraqi border could be a possible target. That facility accounts for 17% of Iran’s refining capacity and 13% of its gasoline supply, he said.
“Attacking an oil refinery would harm Iran in several ways – not only by reducing gasoline supplies, but also by freeing up crude oil supplies,” Smith said. “Iran is already struggling to find buyers for the harsh sanctions. The vast majority goes to China.”
Still, oil traders have seen oil prices rise this week as tensions flare in the Middle East. Iran launched a missile attack on Israel after Israel launched military operations in southern Lebanon in its latest offensive against the Iranian-backed militant group Hezbollah.
On Thursday, the global benchmark Brent crude December contract BRN00 BRNZ24 rose $3.72, or 5%, to end at $77.62 per barrel on ICE Futures Europe – up 8.5% for the week. U.S. benchmark West Texas Intermediate crude for November delivery CL.1 CLX24 added $3.61, or nearly 5.2%, to close at $73.71 per barrel on the New York Mercantile Exchange, up 8.1 % for the week.
Tensions between Iran and Israel have put a damper on US benchmark indexes, with the Dow Jones Industrial Average DJIA and S&P 500 SPX on track to finish lower this week, but the S&P 500 Energy Sector XX:SP500.10 set for a weekly increase of more than 5%.
If Israel attacks Iranian oil export facilities or refineries, Simon Wong, a research analyst at Gabelli Funds, told MarketWatch that oil prices would look to move higher as a “reflexive response.”
The global benchmark for Brent crude prices could rise by $10 to $15 a barrel in response to a disruption in the flow of oil in the Middle East, he said, adding: “What happens next depends on how Iran responds.”
Oil export facilities are not Israel’s only potential targets in Iran, Wong said. Others would include nuclear facilities, refineries and air defense facilities, he said.
The flow of oil through the Strait of Hormuz – a narrow waterway bordering Iran and the most sensitive transportation bottleneck for global oil supplies – is also a major problem.
According to the EIA, an average of 21 million barrels of oil per day flowed through the waterway in 2022, representing 21% of global oil consumption.
“If Iran’s oil production and exports were to be disrupted, other OPEC countries could produce more oil relatively quickly to avoid a prolonged oil shortage,” said Rob Thummel, who manages the Tortoise Energy Infrastructure Total Return Fund TORIX at Energy asset manager Tortoise.
“The difficulty is that the likely oil supplier that can fill the gap in Iran’s shortages is Saudi Arabia or Kuwait,” he told MarketWatch. “These barrels would have to be transported through the Strait of Hormuz. If Iran could successfully cut off or disrupt oil shipments through the Strait of Hormuz, which borders Iran, then the world would have a bigger problem.”
Thummel said a prolonged disruption, such as a strait closure that temporarily reduces global oil supply by 20%, would cause oil prices to “temporarily spike” – possibly above $100 a barrel.
Keep in mind, however, that the U.S. “is acutely aware of the significance of the Strait of Hormuz and will likely use any means necessary to keep the strait open,” Thummel said.
