The U.S. federal government this week declared sanctions on two of the largest Russian crude oil exporters, Rosneft and Lukoil, which together account for about half of the country’s total outflows. Oil prices jumped, traders got excited—then prices fell. But the supply security of some major importers just got problematic.
Russia exports around 4 million barrels of crude oil daily. Some of the major producers have already been sanctioned earlier – Gazprom Neft, for example, and Surgutneftegaz. Rosneft and Lukoil are also the target of many sanctions, but none of these until now have directly targeted their sales overseas. With the latest sanctions, as much as three-quarters of Russian oil exports will effectively be banned to anyone using U.S.-dollar-based payment systems and the U.S. financial system, Russian business daily Kommersant reckons.
Three-quarters of 4 million barrels daily is a lot. It is, in fact, larger than the size of the oil market surplus that the International Energy Agency has predicted for this year. That surplus, per the IEA, will be 2.35 million barrels daily. The portion of Russian exports under sanctions amounts to some 3 million barrels, with the latest additions of Rosneft and Lukoil. Assuming the sanctions will be 100% effective in cutting that much oil from Russia’s exports, the global oil market will be rebalanced in the blink of an eye, more or less, quenching concerns about a glut.
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Of course, history teaches us that no sanctions are 100% effective, and there is also the matter of the latest declaration’s phrasing, as noted by the Wall Street Journal. The sanctions, the Department of Treasury said, mean “financial institutions and other persons may risk exposure to sanctions for engaging in certain transactions or activities with designated or otherwise blocked persons.” According to the WSJ, this sort of phrasing suggests there are loopholes that can be used by Indian and Chinese financial institutions that, per the WSJ again, “couldn’t survive long if they lost access to U.S. banks and dollars.”
The thing, however, is that China and India have already been testing local currency payments for Russian oil. Chances are that this testing would accelerate thanks to the latest sanctions, with even more Russian crude being sold for yuan or rupees. The latest reports say that both Chinese and Indian buyers are suspending orders from Russia, but this is most likely an immediate, knee-jerk reaction until the implications of the latest sanctions are measured and analyzed.
“Countries are not going to do any dramatic shifts because Mr. Trump wakes up on the wrong side of the bed,” Harsh V. Pant, senior analyst at the Observer Research Foundation in India, told the Wall Street Journal.
“Trump’s sanctions on Rosneft and Lukoil [will] have significant implications for Russian seaborne crude exports, potentially prompting major buyers to scale back purchases — if not halt them entirely — in the near term,” Muyu Xu, a senior oil analyst from Kpler, told CNBC. The analyst added that a complete halt of Russian oil purchases was unlikely.
Over the longer term, oil will find a way as it always does. CNBC noted in its report that Indian buyers of Russian crude were currently checking their paperwork to make sure none of their barrels came directly from Rosneft or Lukoil. The Chinese government denounced the sanctions as having no basis in international law, while Chinese oil buyers probably checked their own paperwork for direct links to the two new sanctioned companies. Before too long, flows will resume, at least in part. It is the size of that part that would determine oil prices going forward.
The reaction of oil markets to the sanction announcement this week spoke volumes. First, prices spiked, then they calmed down, suggesting the panic was momentary and, for now at least, few expect an actual dramatic disruption in Russian oil exports—or global oil balances.
“Crude is levelling off, some profit-taking is setting in, indicating the market is not hitting the panic button over Russian supply,” Vandana Hari from Vanda Insights told Reuters. “It is likely to be wait-and-watch mode, until the next twist in the saga, that could be an escalation or a de-escalation,” she noted. “Looks like the market is betting on the latter.”
The market may as well be betting on the fact that the U.S. president does not want oil prices to go much higher because he promised his voters he would keep fuel prices low. Perhaps this has something to do with the phrasing of the sanction declaration. Perhaps Trump aims to both give the impression that he is being decisive with Russia and, at the same time, is aware of the realities of energy security, which have a lot to do with the international price of crude oil, of which Russia is the third-largest exporter.
By Irina Slav for Oilprice.com
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