Crude Iran Saudi tensions pose little risk to oil production

Crude has had a volatile session in this first trading day of 2016. Both oil contracts started on the front foot before turning lower in the second half of the day, as traders responded to the headlines concerning Iran and Saudi Arabia. The latest news according to the BBC is that a number of Saudi’s allies including Bahrain and Sudan have joined diplomatic action against Tehran. This comes after Saudi’s embassy was attacked in Tehran in response to the execution of Shia Muslim cleric Sheikh Nimr al-Nimr. The key takeaway point here is that this has increased tensions between the Sunnis and the Shias in the Middle East, but without a significant deterioration of the situation it is unlikely to impact oil production. The rising tensions between Saudi and Iran may however further compromise their relationship within the OPEC which could mean even less coordination going forward. But this will only further cement Saudi’s strategy of keeping OPEC’s taps open as Iran will no doubt boost its production when more Western sanctions are relaxed. Therefore, although geopolitical risks may have increased in the region, oil prices are unlikely to show significant reaction at this stage. This may be why oil prices were unable to maintain their earlier gains. Added to this was the weakness in manufacturing PMI data from China overnight, which points to slowing demand growth from the world’s second largest oil consumer.

Last month saw Brent oil momentarily fell below the December 2008 low of $36.20. Although it has repeatedly bounced back from this level, so far none of the key short-term resistances have been broken down. So the pressure remains and we wouldn’t be surprised if it started its descent towards $30 a barrel next. Some of the key near term resistance levels for Brent include $39.00, $40.00 and $42.20. For oil to stage a comeback these levels would need to be taken out soon.

WTI has likewise failed to break its own key short term resistance at $37.75, a level which was previously support. At this stage, a decisive break above here is needed in order to end the very short term bearish bias. But the RSI is in the state of a bullish divergence, which suggests that the bearish momentum may be fading.  IF WTI goes on to break higher, it will still have to face resistance levels such as $40.00 and $42.00. Only a decisive break above the latter would be deemed a bullish outcome. In the more likely scenario, US oil may drop to test the lower trend of a potential wedge pattern around the 127.2% Fibonacci extension level at $34.15 next. The December 2008 low comes in at $32.40, followed by the psychologically-important $30 handle next.