Geopolitical risk premium expands in crude oil markets

October 16, 2024 (MLN): The geopolitical risk premium priced into crude oil markets, which has been relatively subdued for the most part this year, has expanded to yield a $5-10/bbl variation in crude oil prices from $3-5/bbl, due to the increased risk of a broader conflict in the Middle East that could disrupt oil supply from countries including Iran, Fitch Ratings says.

This has supported a recovery in benchmark prices from the low $70’s to $78-80/bbl. However, these prices are still below the average trading levels of 2Q24 and 3Q24 as the fundamental supply and demand situation remains relatively weak.

The global oil market has a structural overhang, which we expect to be the dominant factor driving oil markets irrespective of the risk premium. OPEC spare oil production capacity is still greater than 5mmbbl/d, with 2.2mmbbl/d of voluntary cuts set to be gradually unwound starting later this year.

Meanwhile, non-OPEC supply continues to grow and demand growth in China remains tepid owing to a sluggish economic backdrop and continued changes in its energy mix away from oil. Libyan production outages may also be reversed.

Fitch's current base case oil price assumptions are that Brent will average USD70/bbl in 2025, largely to reflect the downside risk to the market posed by fundamental supply and demand factors. The entity treats geopolitical risk as an event risk for the rating of issuers directly exposed to the conflict.

For Energean plc (BB-/Stable), an oil and gas producer highly exposed to physical risk due to its Israel-focused offshore asset base we model a three-month production loss at its Israeli assets into our assessment of the company’s forward-looking liquidity and credit metrics. We treat a potential larger disruption to its operations as an event risk.

Israeli chemicals company ICL Group Ltd. (BBB-/Stable) is less exposed to physical risk, but is still operationally affected by the conflict.

Fitch directly reflects the impact of lower staffing levels resulting in production losses in our rating case forecast for the company. We treat the company’s exposure to broader supply chain disruptions, increased costs, and other factors as event risk.

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