Oil prices jumped to the highest level in more than three months on Friday after the United States killed a top Iranian military commander in Iraq, sparking fears that escalating conflict in the region could disrupt global oil supplies.
An air strike at Baghdad airport killed Major-General Qassem Soleimani, architect of Iran’s spreading military influence in the Middle East, prompting Iran’s supreme leader, Ayatollah Ali Khamenei, to vow revenge.
Brent crude LCOc1 ended the session up 3.6% or $2.35 at $68.60 a barrel, off the session peak of $69.50, the highest level since the mid-September attack on Saudi oil facilities.
West Texas Intermediate (WTI) crude CLc1 settled up $1.87 or 3.1% at $63.05 a barrel. The session high was $64.09 a barrel, its highest since April 2019.
US President Donald Trump on Friday said that Soleimani was planning to kill Americans.
Tensions between the United States and Iran have flared over the past year as Washington reimposed sanctions on Tehran and in the aftermath of a missile and drone attack on oil installations of the Saudi Aramco company for which US officials blamed Iran.
The Soleimani killing has brought those tensions back to the forefront, fanning worries about a squeeze on crude supplies, though the effect of the increased geopolitical risk remains unclear.
“The market is trying to assess whether we’ll see a supply disruption, if any,” said Andy Lipow, president of consultants Lipow Oil Associates.
“Iran has already seen their exports cut to minimal volumes; they have little to lose in the way of crude oil exports.”
More than 840,000 front-month WTI contracts changed hands, while Brent trading volumes surpassed 464,000 lots, both the highest since the Saudi attacks.
Concern shifted to potential retaliation as the United States is sending nearly 3,000 additional troops to the Middle East as a precaution amid rising threats to American forces in the region, US officials said.
“The Iranian retaliation could take the form of a quick response by proxies against US allies and assets. One-off incidents targeting Gulf oil flows are possible, as are attacks on Gulf oil infrastructure, after the Abqaiq incident did not trigger a US military response,” said Paul Sheldon, chief geopolitical risk analyst at S&P Global Platts.
The US embassy in Baghdad on Friday urged all citizens to depart Iraq immediately, and dozens of US citizens working for foreign oil companies in the Iraqi oil city of Basra were preparing to leave, company sources told Reuters.
All oil fields across the country were operating normally and production and exports were not affected, Iraq’s Oil Ministry said in a statement. It said no other nationalities were departing.
The oil futures market is already beginning to price in near-term supply tightness. The spread between the December 2020 and 2021 US crude futures contracts CLZ0-Z1 as well as the corresponding spread for Brent LCOZ0-Z1, popular trades in oil markets, surged to the highest level since October 2018.
“If the situation worsened, and oil supplies were disrupted, this could have broader economic and financial market impacts through a sharp rise in crude oil prices,” UBS Global Wealth Management’s chief investment officer, Mark Haefele, said in a note.
“However, spare capacity in oil remains adequate (OPEC’s and Russia’s spare capacity is around 3.3 mbpd). And, we still expect an oversupplied oil market in 2020.”
Oil prices also found support after data showed weekly US crude stockpiles fell by the most since June.
Grim US data hits dollar
Investors rushed into safe-haven assets on Friday after US air strikes in Iraq killed a senior Iranian military official, sending the Japanese yen to a three-month high, while the US dollar index was knocked by the weakest domestic factory activity in a decade.
In addition to the yen, US Treasuries, German bunds and gold rallied after the overnight air strike in Baghdad killed Qassem Soleimani.
“Overall, geopolitical risk premia have risen substantially overnight,” said Karl Schamotta, chief market strategist at Cambridge Global Payments. Investors were “really looking for safe havens and a port in the storm,” he added.
The Japanese yen had risen as high as 107.82 per dollar and was last up 0.48% on the day at 108.04. The yen is often seen as a haven from risk, given Japan's status as the world's largest creditor nation. A holiday in Tokyo also made for thin conditions, exaggerating the move.
The US dollar index .DXY initially benefited from the move into safe-haven assets, but those gains were erased after the Institute for Supply Management (ISM) reported that the manufacturing sector contracted significantly in December. It was last up 0.03% on the day at 96.873.
The attack sparked concerns about crude supply disruptions, lifting oil prices more than $3. Petrocurrencies gained slightly on the higher crude prices, but those were then largely offset by the overall move away from risk, said Schamotta.
The US manufacturing sector contracted in December by the most in more than a decade, with order volumes crashing to a near 11-year low and factory employment falling for a fifth straight month, according to a report from ISM released on Friday.
“That is a depressing number,” said Schamotta.
It suggests “trade war-related uncertainty has actually damaged the manufacturing sector on a sustained basis and that points to weakness in GDP, particularly in the coming quarter because what you’re likely to see is an inventory drawdown as opposed to continued build.”
The longer-term effects on the dollar are unclear. Though it weakened Friday, the greenback may ultimately benefit if slower US manufacturing dents hopes for global growth in 2020.
“The idea that other countries that are large exporters to the US might see a large rebound in the near term - that idea is losing traction here,” said Schamotta.
