Debunking More Myths on Oil and Iran
If supply shortage should drive prices up today, then why didn't it do that yesterday?
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Markets are forward-looking. In fact, that’s the very essence of markets. If you think something will go up in the future, because it’s mispriced today, you buy it and wait for the price to go up. That’s how you make money. But a lot of the discussion on the Strait of Hormuz runs counter to that. I hear people all the time assert that oil prices will gradually ratchet higher for every day the Strait remains closed. This reasoning baffles me because - if markets are forward-looking - there can’t be a gradual rise in oil prices. Markets make their best guess for how long the Strait stays closed and then push prices up - today - to whatever level brings demand down to constrained supply. That’s why oil prices rose sharply weeks ago and why they’ve stayed high. Of course, it’s possible the closure of the Strait lasts longer than markets had initially expected. Over time, markets will update their estimate for how long this thing lasts, but - as we’ve seen in recent weeks - that can go both ways. Every hint of progress on peace negotiations sees oil prices tumble. There’s no one-way train for oil prices higher.
Ultimately, this all boils down to how much oil prices will rise and whether Strait of Hormuz disruption got fully priced weeks ago or not. In a post last week, I debunked the myth that oil prices will move inexorably higher as time passes. Today’s post re-ups that theme and debunks a few more myths.
Oil prices can only go up: Iran blockaded the world and the US is blockading Iran. This is a good, old-fashioned staring contest and it’s unclear how long it’ll last. But one thing should be clear to everyone: the slightest hint of progress in peace talks will see oil prices tumble and I’m not just talking about futures. The chart above shows Dated Brent in blue and the front-month future in black. Both fell sharply a few weeks ago on the cessation of fighting and start of negotiations. We’re still in this negotiation phase, which will likely end in a deal to reopen the Strait. The only uncertainty is when, not if.
Futures don’t price what’s going on: whenever markets refuse to follow the path many expected, there’s cries of market manipulation. That’s happening again now and should surprise no one. My take on this is that this debate has grown largely irrelevant because the gap between Dated brent and the front-month future has shrunk to a shadow of its former self. As the chart above shows, we’re almost back to where physical and paper are the same thing. It’s significant that much of the narrowing in this gap comes from Dated Brent falling. That goes against the narrative that the physical shortfall will drive Dated Brent steadily higher and futures will have to follow. That’s been loudly disproven in recent weeks.
Petrodollars and swap lines: Saudi Arabia is by far the biggest oil exporter in the Gulf and it’s far from obvious that it’s hurting in this standoff. The chart above shows how the Brent oil price (horizontal axis nearest the reader) and export volumes (horizontal axis away from the reader) map into Saudi Arabia’s annual export revenues (vertical axis). For Brent, I assume a range of $50 to $130, while for export volumes I set a range from one to seven million barrels per day. The two red dots on the 3D surface denote the pre-war equilibrium and the status quo, assuming the Red Sea pipeline gets Saudi Arabia to five million barrels per day. The pre-war dot has Brent at $60 and export volumes at seven million barrels per day. That puts annual export revenues at $150 billion. The status quo dot assumes Brent at $110 and export volumes at five million barrels per day. Export revenues are $200 billion in this case. Saudi Arabia’s nominal GDP has been right around $1 trillion in recent years, so that’s five percent of GDP upside. If Brent is only $100, this windfall shrinks to three percent of GDP. You’d need Brent to fall all the way back to $80 for Saudi to get the same export revenues - at five million barrels per day - as before the war. So there’s no need for US swap lines. The Saudis by themselves can stabilize the region and deal with short-term funding issues. US swap lines are just an expression of support and largely symbolic.
The blockade can’t work: there’s a kind of defeatism in much of the commentary on the blockade, which reminds me of the months right after Russia’s invasion of Ukraine. Invariably, Putin would get portrayed as a mastermind in the Western press, while a blockade or sanctions got dismissed as unworkable. This same kind of thing is happening now. Part of the reason is that we don’t have good data on Iran, while we have lots of data for everyone else. So it’s easy to go on about how the global economy is hurting, while we don’t know what’s happening in Iran. This knowledge gap is distorting perception. Just because we don’t have data doesn’t mean things are fine. The parallel exchange rate in the chart above doesn’t shows this - it’s heavily manipulated - but there must be substantial capital flight out of Iran, much as there was capital flight out of Russia in 2022. Beware the perception gap. No data doesn’t mean good data.
Appreciate your posts - they are really good for challenging my views. However a few comments;
- Energy prices are not forward looking in the way equity markets are. They tend to be loosely linked to the anchor of expiry date and the associated convergence to physical delivery prices short term.
- You seem to consistently overlook inventory that is drawing down, and the fact that production is shut in meaning these barrels will never enter the market in the same timeframes. Thats a cumulative effect, it builds slowly but hits hard when it does.
- A lot of the usual traders in the domain have had to limit the size of their positions because of volatility induced by the Trump admin jawboning. As net the market is long, this has a real effect.
- I think western markets are following the western perspective on negotiations, but there seems to be a real disconnect right now. As a result the timelimes have consistently been shifting. But at some point it might start to land that there is not going to be a lot of good progress, but no progress at all without further escalation. Your assumption that it is all smooth sailing from here (‘war is over’), besides a few hickups, is the most positive scenario. Could be true, but not with overwhelming probability.
- You seem to judge the potential response from Iran to the blockade as that of a rational democratic actor, but they are not one as such. This could have real implications. They might be willing to tolerate a lot more pain and despair than we (the west) are willing to accept as things play out in global markets.
Robin - your framework rests on an overly simplistic assumption: that oil futures are efficient, forward-looking, and therefore already “right.” That breaks down in this kind of shock. Futures don’t price a single known outcome—they price a distribution of uncertain paths, filtered through liquidity, positioning, inventory buffers, and headline-driven probabilities. In a Hormuz scenario, the core variable is not the next quarter’s average oil price; it is the reliability of a critical artery. That is not something a front-month contract can fully capture. Markets systematically underprice duration risk and low-probability, high-impact branches, especially when the system is still functioning at the margin. The result is a false sense of precision: stable prices sitting on top of highly unstable plumbing.
This is why the “markets are forward-looking, so everything is priced” argument is too simplistic. We are still in the inventory-smoothing phase, where buffers and expectations of a near-term resolution suppress price signals. But if disruption persists, the system shifts from price discovery to physical constraint, and adjustment happens through demand destruction rather than smooth repricing. That is exactly the dynamic seen in past shocks - from 1973 to more recent supply-chain disruptions - where markets initially looked calm before nonlinear adjustment kicked in. The fact that prices respond to negotiation headlines does not prove the system is stable; it proves that the market is trading probabilities, not outcomes.
More fundamentally, you are (once again) misapplying the Russia 2022 playbook to a very different problem. Russia was a rerouting story within an open system; Hormuz is a chokepoint reliability problem with no easy short-term alternative routes. Iran’s leverage is not about shutting flows entirely - it is about making them conditionally reliable, which introduces persistent optionality that markets struggle to price. That is precisely where futures markets are weakest: they compress complex, path-dependent geopolitical risk into a single number. The absence of a price spike, therefore, is not evidence that the shock is overstated. It is evidence that the market is implicitly betting on a short disruption and underweighting the consequences if it is wrong.