Editor’s Note: This is a guest post. The guest did not want to reveal his/her identity, so I will keep it anonymous.

Summary

ConocoPhillips (COP) is widely expected to receive $1.5 billion from the proposed Amber Energy (Amber) purchase of PDVH Holding, Inc., the parent of Citgo Petroleum Corp., a U.S. refining giant (PDVH or CITGO).

That Amber deal was approved by a Federal District Court in November 2025, is awaiting appeals, and could close in Q1 2027; however, the valuation of refining equities has doubled since Amber’s auction victory, putting Conoco in a position to recover an additional ~$4 billion from a CITGO settlement, plus billions more from returned upstream assets.

We see material, underappreciated upside in COP shares from these near-term settlements with Venezuela.

The Amber Bid

Amber won the auction for CITGO at an equity valuation of ~$7.7 billion (the combination of PSVSA 8.5 2020s bonds plus the value of Delaware priority claims including discounts).

On a Price-to-Book (P/B) value basis, this Amber bid was 1.21x for CITGO (including an estimate for lock-box cash build), compared to the sector P/B valuation of 1.82x, so Amber paid a ~33% discount.

That acquisition price covers Conoco’s priority #3 claim of $1.4 billion and Conoco’s priority #8 claim of ~$50 million, but fell short of reaching Conoco’s gigantic priority #14 claim of $11 billion.

Current CITGO Value

This year has seen a perfect storm for the global refining market: Hormuz Strait disruptions and increasingly well-targeted drone strikes on Russian refineries have idled ~5% of global refining capacity, limited seaborne products by a similar amount, and sent U.S. refining cracks to the stratosphere.

In turn, the value of U.S. refining equities has blasted from 1.82x P/B in mid-2025, when the Amber bid was priced, to 3.46x today. Amber’s bid is now a 67% discount to where the sector trades.

If CITGO is still worth a 33% discount to the sector, or about ~2.31x P/B, then the current fair market value of CITGO equity has risen from Amber’s $7.7 billion to ~$15.5 billion today, which is more than double the contracted Amber purchase price.

At fair market value, Conoco would become the primary beneficiary of this incremental CITGO value because Conoco’s giant priority #14 claim of $11b is suddenly in the money by ~$3.5 billion (and counting?).

With the prospect of Conoco returning to its former upstream assets in Venezuela, the rapid rise of the refining sector and CITGO’s value has no doubt altered corporate calculus about how to settle to maximize claims recoveries. But is there a way forward on CITGO?

PDVH/CITGO v. Peer group valuation -- Amber Energy 2025 vs Current fair market value claims coverage through COP ICSID -- August 2026:

The Alternative

The Venezuela government, as rational fiduciaries tasked with minimizing liabilities in a sovereign debt restructuring, cannot let slip the massive CITGO valuation uplift and the opportunity to accelerate Conoco’s return to Venezuela.

Luckily for Venezuela and Conoco, the Amber Energy Share Purchase Agreement of 2025 (SPA) can be terminated by the Federal Court should the Venezuela Parties (PDVSA, or the Venezuela government itself) or an entity acting in concert with the Parties make a so-called Superior Proposal at any time before Amber closes on the purchase. We believe this is a very underappreciated fact in the marketplace.

Conoco leadership should seize this opportunity to engineer a settlement agreement that offers billions in additional recovery for its shareholders and unlocks ~$8 billion of additional debt relief mainly for the Republic, while also positioning the company ahead of other creditors in the sovereign restructuring and accelerating its inevitable return to significant upstream production in Venezuela.

Conclusion

Conoco is uniquely positioned to act in concert with Venezuela and secure U.S. Government approval for a fair market-value transaction of CITGO that finally puts the everlasting litigation over myriad expropriations to a happy conclusion.

If Conoco is willing to take a leadership role in negotiating and underwriting a fair settlement agreement, COP shareholders stand to recover ~$5 billion in cash and/or equity value from a CITGO settlement, leaving a residual >$7 billion of deficiency claims that can be converted into upstream assets in-country. In sum we see ~10% uplift to COP shares through near-term settlements with Venezuela related to CITGO and upstream assets in country.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours.

I’ll try to make your life as easy as possible with this article. There’s a lot of information out there, and I don’t want to waste your time.

For those of you who want a deep dive into the macro oil thesis, I recommend you read the two-part publication by Jon Costello, head of research for HFIR:

(Public) The Oil Shortage The Market Is Still Underpricing, Part I

The Oil Shortage The Market Is Still Underpricing, Part II

Here’s a brief recap of the oil math:

• Draws are currently concentrated in oil-on-water and China onshore crude inventories.

• Global product inventories remain low and are drawing counterseasonally.

• OECD crude inventories are seeing builds but will reverse to draws.

• Oman Lane is transiting ~5 million b/d of crude, or 2.5 VLCCs a day.

• The global oil deficit is clocked at ~3 million b/d, with visible oil inventories drawing ~1.5 million b/d.

On the geopolitical side, I have argued the following:

• We are at a turning point. Maximum political pressure could be applied today if Iran escalates.

• Oman Lane transits remain an issue for the Iranians as the ~5 million b/d of crude flow is dampening the potential crude draws.

• Either Iran can escalate the Oman Lane (more tanker attacks) or it can escalate to Fujairah.

• UAE announced yesterday that it is cutting off all diplomatic ties and trade relations with Iran. It’s now or never.

My Thoughts

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By: Jon Costello

Please read Part 1, “(Public) The Oil Shortage: The Market Is Still Underpricing, Part I.”

In Part I, I argued that the global oil market is considerably tighter than current crude prices suggest, with the shortage so far concealed by inventory withdrawals, strategic reserve releases, reduced Chinese imports and other temporary buffers. If that shortage persists, its consequences extend well beyond the price of oil.

In this second and final part, I examine four of the most important consequences I believe could follow from a prolonged disruption: a shift in power within the global oil market, a lengthy and potentially expensive process of rebuilding depleted inventories, the possibility of an oil-shortage recession, and the implications of such a downturn for the stock market. I then consider what these risks mean for investors and how I believe they should be approached.

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What we are witnessing in the oil market today is “obviously” unsustainable. You wouldn’t be able to figure that out if you only looked at crude oil prices.

Since the start of June, Brent has been flat despite the whole nonsense about the MOU, the Strait of Hormuz reopening, and the latest fiasco about the Iran/Oman deal.

To the casual observer, it may appear that the worst is behind us. I mean, price is the ultimate barometer of truth, right?

No, wrong. And that’s the problem with the oil market. What used to be signals in the market are no longer signals. Instead, there are deliberate attempts to mask the market from the ability to achieve true price discovery. First, it was position suppression driven by the risk of another imminent peace headline, followed by direct intervention.

And the irony of this whole ordeal is that market participants are now falsely believing that the largest oil supply outage in history is somehow resulting in a balanced market. What an amazing time to be alive.

What we are witnessing in the oil market today is an unsustainable equilibrium. It is not possible to continue in this state for even a few more weeks. From both an oil math and geopolitical standpoint, this is a powder keg waiting to explode.

Unsustainable

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By: Wilson

It appears the Trump administration is going all in on economic fury, since Operation Epic Fury didn’t succeed in opening the Strait of Hormuz.

According to comments made by Treasury Secretary Scott Bessent today:

Watch this ⁠space for more announcements ​coming next week because we ​are going to apply measures like have never been seen in ​the history of economic ​isolation on a country.

It will be a combination of economic ​isolation like ​the ⁠world has never seen before, and the ​continued blockade in the ​Strait ⁠of Hormuz that will keep anything from going in ⁠or ​out of ​the Iranian ports.

Iran is about as sanctioned as you can get at this point. The only way for Bessent to pull off a real sanction is if it goes all out on the Chinese. But even if that happened, China would just ignore it and continue doing business the way it has been.

What’s funny about this new strategy of “waiting it out” or playing for time is that the US thinks it has the variable time on its hands when it’s the exact opposite.

In Goldman’s latest oil report, it posted this chart, which will likely get heavily scrutinized by Bessent tomorrow.

But the drop in visible total oil inventories is obvious since most of it came in oil-on-water. If the Strait of Hormuz shuts off, oil-on-water falls, which translates into lower onshore inventories.

China, which was somewhat immune to the initial drop in crude imports, is no longer showing the same invincibility now. Suddenly, onshore crude oil inventories are falling as if some underground storage was drained first.

Surprise!

And as I wrote in June when the MOU was first signed, China’s onshore oil inventories won’t build despite higher crude imports. Why?

Black box in, black box out.

Going forward, China has two choices:

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The global oil market today is sitting around a -3 to -4 million b/d deficit. In this article, I will update you all on the shut-in math, global oil inventory projections, and where we are headed.

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Geopolitically speaking, what happens in the next few weeks will have important ramifications for the oil market for years to come.

In last week’s WCTW titled, “The Importance Of Fujairah And Why It Is An Inevitable Escalation Point For The Global Oil Market.” I explained that the scenario President Trump is pursuing is the following:

Scenario 3: Talks are ongoing, small strikes back and forth, and Trump is just trying to survive the midterms

This scenario is what’s currently unfolding. The US is using these 1 to 2 week strikes to temporarily knock out Iranian capabilities so it can conduct S2S to help buffer the global oil math. In the meantime, Trump is using his market moving powers to flush oil prices down using the same strategy of war on, war off, peace on, peace off.

So far, this strategy is working and it’s possible they can keep doing this dance until the midterms.

But for the Iranians, they also know that this is the playbook, which brings in the Fujairah card as an inevitability. If Iran does not play the Fujairah card during this window (August), then it will have lost leverage on the midterms and the oil math. Every day that goes by without enforcement in the Oman lane implies that Iran is losing leverage.

Logically, this means that Fujairah is next, which would pressure the global oil market like we’ve never seen before.

Over the weekend, Axios reported that Trump is trying to “low-key” the Iran conflict and let economic pain do its damage on Iran. From the US’s perspective, time is on its side.

Well, if you look at where WTI is trading today ($82), you would have to agree. The oil market today is in the twilight zone, and oil market participants have become Pavlov’s dog. Every time a bearish headline comes out, the price drop outweighs any escalation price rally.

Scott Bessent, the US Treasury Secretary, really worked his magic. Kudos for the best manipulation job on the planet.

And for those who are still in denial that the US is not manipulating the oil market, all you have to do is look at the headlines last week. Scott Bessent himself appeared on TV last Tuesday and said the Strait of Hormuz would reopen within hours or by Wednesday.

Well, is the Strait open?

It’s not open, and I suspect things are about to get a lot worse.

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Ship-to-ship transfers, I am sure you have read something along those lines by now. Fujairah, UAE’s bypass hub for the Strait of Hormuz, has been responsible for these S2S (ship-to-ship) transfers, which have accounted for ~4 to ~5 million b/d of crude outflows.

Why is this important?

Pre-conflict, the Strait of Hormuz saw oil flows of ~20 million b/d.

Post-conflict, there are two bypasses:

• Saudi’s east-to-west pipeline: 7 million b/d, but only ~4 million b/d of crude export capacity in Yanbu.

• UAE’s Abu Dhabi pipeline: 1.8 million b/d.

At the start of the war, we saw both Saudi and the UAE quickly switch to bypass routes to circumvent the Strait of Hormuz.

This was best reflected in the Saudi and UAE crude export figures.

Saudi

UAE

Now what you will notice is something starkly different in the charts above. Unlike the Saudis, which are still experiencing constrained export activities, UAE saw a massive surge in crude exports in June and the July export figures remain elevated.

In addition, both Kuwait and Iraq crude exports did not return to zero in July despite renewed conflicts in the Strait.

Kuwait

Iraq

Why is that?

Because of the S2S through the Oman lane and Fujairah.

How much (in million b/d)?

• Kuwait - 1

• Iraq - 1.5

• UAE - 1.2

• Saudi - 0.5

Total: 4.2 million b/d

This lines up with the rough estimates from Kpler, Vortexa, and others who have tracked the data.

What’s the significance of this?

The Iran war is an all-or-nothing conflict because Iran’s very survival is dependent on the outcome of this war. From an escalation standpoint, the Strait of Hormuz issue is all-or-nothing. If Iran agrees to any temporary deal without permanent guarantees, then all that would happen is for the US to resume the war at a later date when 1) ammunition is stocked up again, 2) air defense is stocked again, and 3) global oil inventory buffers build.

Using this logic, even complete control of the Strait of Hormuz is not a guarantee durable enough to withstand the test of time. Iran knows that it needs to use the Strait of Hormuz as a leverage chokepoint on the rest of the world if it is to deter future attacks and to gain power in the Middle East.

This means that the only way for a durable long-term solution is for the US to pull out completely from the Middle East. Without a total capitulation where the US exits the region, Iran will have to keep using the chokepoints (Bab al-Mandeb, Strait of Hormuz, and finally Fujairah) to inflict economic pain to bend the US to its will.

Now that Iran has already played the Bab al-Mandeb card, it will have to play its final card: Fujairah.

In the chart above, you will notice that Fujairah is in the red lines within its control. What’s incredibly interesting is that if you study a maritime chokepoint in Iran’s “axis of resistance” on the Middle East map, they have designed their grand strategy around targeting all the chokepoints.

• Bab al-Mandeb: Houthis

• Mediterranean: Hezbollah

• Strait of Hormuz: IRGC

Thus, it should not be a surprise that Fujairah is within the Iranians’ control threshold. So it stands to reason that Fujairah, the hub accounting for ~6 million b/d of crude flow, will be the next major point of contention.

Why now?

The Iranians so far in this conflict have refrained from targeting tankers anchored at Fujairah or directly attacking the port. Despite that it’s common knowledge now that the S2S through the Oman lane is accounting for 1/3 of the crude flow pre-conflict through the Strait of Hormuz, we have seen restraint from the Iranians.

But that restraint will likely come to an end if the US does not capitulate and cede control to the Iranians.

The reason is quite simple. The timing coincides with both the midterm election and global SPR release.

First, the US midterm election is in November, but political campaigns are most active in August and September. It is the last push by politicians, so any last-ditch efforts will resonate with voters. With the Iran war already deeply unpopular with the majority of the US, any escalation would reduce the odds Republicans keep the Senate.

From a probability standpoint, the Democrats are already projected to win the House, but the Senate is still a toss-up.

Source: Polymarket

Polymarket currently has a 48% chance of a Democrat sweep. President Trump understands that if both the Senate and House fall to the Democrats, the next 2 years will be spent battling an uphill battle. There’s even the possibility of being impeached, and the Iranians are gunning for “regime change” in the US.

To get the maximum benefit from an oil spike, the escalation table should align with the oil inventory math. Previously, we had expected US commercial crude inventories to reach operational minimums at the end of July, but ~150 million bbls of floating storage resulted in some cancellations in US crude exports. However, the recent tightening in the physical market is back thanks to renewed conflict, and the oil math drawdown resumes.

Now let’s assume that Iran knows that and the US SPR release disappears by the end of August; an escalation on Fujairah now would result in the global oil market losing an additional ~6 million b/d.

This would force the US to either escalate or fold to Iran’s demands. Currently, Energy Aspects saw global crude balance at a deficit of ~2 million b/d in July even with the shadow transits. If Fujairah is closed off, the deficit would jump to ~8 million b/d, sending crude prices spiraling higher.

By this point, even if China doesn’t buy crude, it wouldn’t matter.

All Roads Lead To The Same Outcome

Let’s use scenario analysis to explore possible outcomes. But what you will notice is that all roads lead to the same outcome.

Scenario 1: the US leaves the region and Iran is in control

Let’s assume that Trump decides that this war is too much, and he wants to leave the region. He folds completely, agrees to withdraw all of the troops, and hands Iran control of the Strait of Hormuz.

Iran will immediately turn around, continue to use the Strait of Hormuz as leverage, and demand concessions from Israel. You see, to become a regional hegemon means that you need to eliminate all threats.

Israel, which sees the conflict with Iran as all-or-nothing (similar to how Iran sees the conflict with the US), will just escalate, which will force the US back into the fold. Israel could threaten to bomb Iran’s energy infrastructure, which would force Iran to retaliate against GCC energy infrastructure creating a permanently higher plateau for oil prices because of structural losses in production capacity.

This means that scenario 1 is not even a plausible path to pursue. Iran will escalate even if the US capitulates, and Israel will force the US to re-enter down the road.

Lose-lose.

Scenario 2: US bombs Iran’s energy infrastructure, and Iran retaliates

Using the opposite of scenario 1, the US escalates by bombing Iran’s energy infrastructure, and Iran retaliates. Now the oil market no longer looks at whether or not the Strait of Hormuz opens by X date; it is wondering how much oil production infrastructure has been taken offline and how long it will take to repair.

The market, which previously expected 2027 balances to be in surplus, will have to push prices higher down the curve to reflect this structural supply loss.

This means that in the short-term, the only way to balance the global oil market is through demand destruction.

Now the caveat of scenario 2 is that if the Trump administration was willing to swallow this bitter pill for the sake of winning, then higher oil price and a global depression are the sacrifices they need to make. In such a scenario, there’s no certainty of winning, so we will eat the economic hardship for a “maybe,” which is not exactly an attractive risk/reward.

Scenario 3: Talks are ongoing, small strikes back and forth, and Trump is just trying to survive the midterms

This scenario is what’s currently unfolding. The US is using these 1 to 2 week strikes to temporarily knock out Iranian capabilities so it can conduct S2S to help buffer the global oil math. In the meantime, Trump is using his market moving powers to flush oil prices down using the same strategy of war on, war off, peace on, peace off.

So far, this strategy is working and it’s possible they can keep doing this dance until the midterms.

But for the Iranians, they also know that this is the playbook, which brings in the Fujairah card as an inevitability. If Iran does not play the Fujairah card during this window (August), then it will have lost leverage on the midterms and the oil math. Every day that goes by without enforcement in the Oman lane implies that Iran is losing leverage.

Logically, this means that Fujairah is next, which would pressure the global oil market like we’ve never seen before.

Scenario 4: Fujairah escalation. Trump threatens to strike; Iran threatens to strike back. What’s next?

Let’s say that scenario 3 unfolds. Iran hits Fujairah, demands compliance from tankers to get permits with Iran. The US immediately retaliates, but “peace talks” continue. By this point, the US will have two choices: fold or escalate.

If the US folds, we are back to scenario 1.

If the US escalates, we are back to scenario 2.

One Path

Now you can slice and dice the 4 scenarios above however you like, but there’s one inevitable path you land on: oil infrastructure being targeted.

You can have total capitulation from the US and end up with Israel targeting energy infrastructure. You can have escalation, which eventually ends up resulting in energy infrastructure being targeted.

No matter how you game this out, the inevitable is that some production capacity will be taken out, which will reset how everyone looks at this conflict. Instead of it being transitory, people will look at it as structural, which will completely alter how people trade crude and energy stocks.

Conclusion

If my logic is correct, the Fujairah escalation is the next major event for the global oil market. Because the Strait of Hormuz is an all-or-nothing conflict, diplomatic resolutions are only temporary half-measures that don’t solve the core problem. Either Iran controls the Strait of Hormuz and becomes the world’s most powerful oil producer, or the regime is toppled and everything goes back to normal.

So if you game this out, list all the possible scenarios, slice and dice each one, you ultimately come to the same conclusion: escalation.

I think that’s where we are headed and both the US and Iran understand how important Fujairah is at this point. Let’s see how this all unfolds.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of USO, UCO, BNO either through stock ownership, options, or other derivatives.

On July 4, I published a memo titled, “It’s Now Or Never.” The timing of the memo coincided with The Economist’s publication of a piece detailing why it got the oil call wrong.

Since then, Brent has rallied ~16%.

On Thursday, The Economist strikes back with another beautiful headline:

Gulf states should make a deal with Iran on Hormuz.

And with that, another chart is born.

It is incredible how The Economist perfectly captures the consensus thinking. “How to make Iranian blackmail less painful,” they said.

Incredible.

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By: Jon Costello

Note to readers: dollar figures are in Canadian dollars except where specified otherwise.

On Tuesday, August 4, Suncor Energy (SU) reported second-quarter results. The quarter featured some operational challenges, but the company’s performance was strong nevertheless.

The most significant challenge during the quarter was the weather. Fort McMurray received 50% more precipitation than its ten-year average, making it the wettest quarter in more than thirty years. Management estimates that the weather reduced bitumen mining production by 50,000 to 60,000 barrels per day.

Despite the reduced production, Suncor generated $5.329 billion of adjusted funds from operations, essentially matching the $5.345 billion record set in the second quarter of 2022, when WTI averaged US$108 per barrel. Adjusted funds from operations per share reached a record $4.52.

The quarter’s financial performance is impressive. It can be better appreciated when compared to the previous second quarters over the past few years.

In my previous Suncor article published in July, I raised the normalized 5-2-2-1 refining index assumption used in my valuation to US$35 per barrel and valued Suncor at approximately $97 per share. I also estimated second-quarter adjusted funds from operations of roughly $5.6 billion.

The quarter did not unfold as I expected. Upstream production fell 5.8% year over year, primarily because the planned turnaround reduced in situ bitumen production at Firebag. Higher production from Suncor’s oil sands mining operations, despite the unusually wet weather, partly offset that decline. Downstream throughput, meanwhile, reached a second-quarter record. Operating results relative to prior quarters are shown below.

The tables illustrate the benefit of Suncor’s integrated mode, as the mixed operating performance was still able to drive financial outperformance.

Chief Financial Officer Troy Little said downstream funds flow reached a record $2.3 billion. The company’s second-quarter report shows $2.299 billion, compared with $615 million a year earlier. The result was $172 million above the previous record in the second quarter of 2022 even though, after the renewable volume obligation, the New York Harbor 2-1-1 crack margin was more than US$10 per barrel lower.

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• Short-term: where are we? Where are we headed?

• Medium-term: pricing outlook for 2027 and 2028.

• Long-term: what is the thesis for natural gas?

Let’s get started.

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Politically and fundamentally, we are now in the final innings of this “fork in the road” in the Iran war.

Politically: Midterm elections are 3 months away with the most impact being felt on the voter base in August and September. It’s now or never to make a deal.

Fundamentally: Bab al-Mandeb has reduced Saudi crude export flows by 1.5 million b/d. Global oil market balance in the last 2 weeks declined by 6.3 million b/d, according to Goldman. If the Oman lane is contested again or if Fujairah is targeted, the deficit increases to 12 million b/d. With less than 100 million bbls left in OECD commercial crude inventories, this would imply an operational minimum within a month. It’s now or never.

The timing of the TACO from Trump has always coincided with the oil math. We saw the first TACO in early April, with the oil market’s breaking point in mid-April. That was the best time to resolve the conflict and give the Iranians control of the Strait of Hormuz. But as my WCTW report explained yesterday, even if we did, they would’ve exerted leverage, demanded more and drained our strategic petroleum reserve either way.

The next big one was the June MOU where we effectively already gave Iran control of the Strait. But the “different interpretation” meant that the US wanted to establish the Oman lane, through which 4-6 million b/d of oil flows.

And while 100 million bbls of floating storage and 50 million bbls of loaded crude rushed out, we didn’t see a similar drop in petroleum product prices, because you can’t print molecules.

Now we are here. MOU 2.0 is upon us, supposedly, and we are giving Iran control of the Strait of Hormuz again like MOU 1.0.

What changed?

Nothing.

If the US goes back to the MOU, it will effectively put Lebanon back in the game again, as that was point 1. And since Israel has no intention of pulling out of Lebanon, Iran can just point to that issue and limit the inflow of tankers. Since inflow tankers are what determines how fast oil production shut-in returns, we are basically handing them the keys in exchange for ~23 million bbls of floating storage stuck in the Persian Gulf.

That sounds like a really shitty deal to me.

But more importantly for the Iranians, what’s the endgame here?

They know that maximum leverage needs to be applied now, so is this just a diplomatic gesture to the rest of the world that they “tried” similar to MOU 1.0?

Remember that Iran’s Foreign Minister stated in a recent TV interview that they wanted to exhaust all diplomatic options. That way, in the event of more conflict, the Iranians can say that they tried the diplomatic solution, but the US violated the agreement.

Well, I guess we are about to find out just exactly what they want. In that context, the latest from Sepah News, the official media outlet of the IRGC, was an interesting point:

The main reason for the delay in reaching an agreement with Oman regarding the Strait of Hormuz is the involvement of the United States and the threats from Trump.

As long as there is US interference and threats of military action against Iran, the agreement will be delayed.

Iran will not make any agreement under the shadow of threats.

And while the US tried to signal to the oil market that the Strait of Hormuz will be reopened within hours or tomorrow, the reality is that it’s time for the rubber to meet the road.

You either open it or you don’t.

The Next 48 Hours

Trump said himself, “We will know in the next 48 hours.”

Yes, we will. This is a black-and-white issue. Either the US and Iran agree to a deal and hand Iran effective control of the Strait of Hormuz, or there’s no deal and escalation is back on.

Even if there is a deal, we will need to see how many tankers Iran allows back into the Strait. In addition, we need to know whether it has a say on how many can exit.

The oil market, on the other hand, appears overly excited to price in the news before anything actually materializes. Almost like an invisible hand is trying to guide it somewhere, but interestingly enough, the physical market doesn’t care anymore. Physical demand is strong and time is running out.

We will all know soon enough.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of USO, UCO, BNO either through stock ownership, options, or other derivatives.

Why is this important?

Pre-conflict, the Strait of Hormuz saw oil flows of ~20 million b/d.

Post-conflict, there are two bypasses:

• Saudi’s east-to-west pipeline: 7 million b/d, but only ~4 million b/d of crude export capacity in Yanbu.

• UAE’s Abu Dhabi pipeline: 1.8 million b/d.

At the start of the war, we saw both Saudi and the UAE quickly switch to bypass routes to circumvent the Strait of Hormuz.

This was best reflected in the Saudi and UAE crude export figures.

Saudi

UAE

Now what you will notice is something starkly different in the charts above. Unlike the Saudis, which are still experiencing constrained export activities, UAE saw a massive surge in crude exports in June and the July export figures remain elevated.

In addition, both Kuwait and Iraq crude exports did not return to zero in July despite renewed conflicts in the Strait.

Kuwait

Iraq

Why is that?

Because of the S2S through the Oman lane and Fujairah.

How much (in million b/d)?

• Kuwait - 1

• Iraq - 1.5

• UAE - 1.2

• Saudi - 0.5

Total: 4.2 million b/d

This lines up with the rough estimates from Kpler, Vortexa, and others who have tracked the data.

What’s the significance of this?

The Iran war is an all-or-nothing conflict because Iran’s very survival is dependent on the outcome of this war. From an escalation standpoint, the Strait of Hormuz issue is all-or-nothing. If Iran agrees to any temporary deal without permanent guarantees, then all that would happen is for the US to resume the war at a later date when 1) ammunition is stocked up again, 2) air defense is stocked again, and 3) global oil inventory buffers build.

Using this logic, even complete control of the Strait of Hormuz is not a guarantee durable enough to withstand the test of time. Iran knows that it needs to use the Strait of Hormuz as a leverage chokepoint on the rest of the world if it is to deter future attacks and to gain power in the Middle East.

This means that the only way for a durable long-term solution is for the US to pull out completely from the Middle East. Without a total capitulation where the US exits the region, Iran will have to keep using the chokepoints (Bab al-Mandeb, Strait of Hormuz, and finally Fujairah) to inflict economic pain to bend the US to its will.

Now that Iran has already played the Bab al-Mandeb card, it will have to play its final card: Fujairah.

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Following the MOU announcement in mid-June, we saw a surge in vessels exiting the Strait of Hormuz.

Third-party data providers like Kpler and Vortexa pegged the volume around ~150 million bbls. This initial surge coupled with higher crude loading from the Middle East (using the Oman lane) saw a surge in oil-on-water.

Floating storage, characterized by tankers idled for over 7 days, decreased to a low of ~85 million bbls, down ~100 million bbls. The decline began in mid-May and continued into early July before the escalation resumed. Floating storage is now back up to ~131 million bbls.

Higher floating storage especially in the Middle East is a signal that both the transit in the Oman lane and the post-war status quo are back.

On the crude flow front, we saw an initial surge in Middle East crude exports as producers loaded empty tankers already in the Gulf and drained onshore crude inventories.

Middle East Crude Storage

But as you can see in both charts above, Energy Aspects shows a surge in crude inventories as loadings drop off. We are also seeing this in the weekly crude export figure.

In essence, the MOU sugar rush is gone now.

What does that mean for the oil market?

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Oil is the most important commodity in the world because pretty much everything runs on it. So it is not presumptuous to assume that the market is efficient. Well, I’m going to just say it: it is the most inefficient market today.

How so?

In a normal oil market, production outages (i.e. production shut-in) are barrels lost that can only be offset by demand destruction. No, not lower crude imports because that just drains crude oil inventories. No, not lower refinery throughput, because that just drains refined product storage. Demand destruction: end-user demand falls. Lower demand, lower global economic activity figures, lower mobility data, fewer flights, less traffic; you know, the stuff that actually tells you whether less fuel is being consumed or not.

COVID taught all the oil watchers one important thing: mobility indices. It’s pretty intuitive. To gauge whether oil demand was recovering, we just had to watch traffic, flight numbers, etc. Do we have similar demand destruction today?

No, not even remotely close to 10 million b/d.

So how is it that the oil market has convinced everyone that with each passing day, only escalation will push oil prices higher, and not just the production shut-in that should, in theory?

This is Pavlov’s oil market.

Pavlov’s Dog

Ivan Petrovich Pavlov was a Russian/Soviet experimental neurologist and physiologist known for his experiments with dogs. His experiment with dogs can be best summarized by this graph below:

In essence, if you train the dog to associate the neutral stimulus with food, the post-conditioned dog would associate the stimulus with food. Even without food present, the conditioned response would still show up.

Scott Bessent, the current US Secretary of the Treasury, used to be a hedge fund manager and worked under George Soros. To say that he understands the markets well would be an understatement. He knows that in a commodity like oil, price is king, and if traders get conditioned to think prices should gradually rise because we are losing 10 to 13 million b/d of crude oil production every day, people will panic, hoard crude, and drive prices higher.

The faster oil prices rise, the greater the economic pressure on the US, and the faster Trump would have to choose between a binary event: rapid escalation or full-on capitulation.

Clearly, it is not in the US national security interest for crude oil prices to go up. At the end of the day, even if we have a stupendously tight product market, product prices are still benchmarked to crude, so if you successfully suppress crude, you are suppressing product prices.

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Wow, -10.9% on Brent on the heels of the Houthis attacking Abqaiq is now officially in the “that makes no sense” bucket. File that along with so many other things that are so detached from reality that it is hard to fathom anyone in energy having a career after this.

If the oil barrel counters were starting to question their own very existence over the last 3 months, today’s geopolitical event + the price action should officially signal to everyone in the oil market forecasting bracket a time to wave the white flag.

No, none of this makes any sense. Abqaiq, which handles ~7 million b/d of Saudi crude oil processing, was targeted this morning by the Houthis. OSINT accounts and others have pointed out that the attacks appear similar to the one from 2019, which saw Saudi reduce production by ~5 million b/d for 2 weeks.

Now couple this with the fact that the Bab al-Mandeb Strait is closed to Saudi-linked vessels, crude export loading in Yanbu has dropped ~1.5 million b/d week-over-week, and Saudi crude oil production shut-in is now closer to ~6 million b/d versus ~3.5 million b/d a week ago. The context of the oil price sell-off really doesn’t make any sense.

But I will attempt the impossible here. I will try to make sense out of this nonsense.

Making Sense

Based on the current crude loading activity out of the Middle East and the latest Abqaiq incident, crude oil production shut-in math requires an update.

Production shut-in in million b/d:

Saudi - 6

Iraq - 3

UAE - 0

Kuwait - 1.7

Iran - 1.1

Qatar - 1.1

Bahrain - 0.17

Total: 13.07 million b/d

Here are some facts you should also know:

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I remind myself daily that I don’t know anything about geopolitics. That’s a fact. Instead, I try to make informed and educated guesses about what I see unfolding. While I am always reluctant to write about geopolitics, it is, unfortunately, necessary given the Iran war backdrop and its importance to the oil market.

So please bear with me.

On July 4, some of you may recall my memo titled “It’s Now Or Never.” The most relevant section in that memo was the following:

The Strait of Hormuz conflict is far from over. If you think about it from a game theory standpoint, it’s now or never for the Iranians.

Iran knows that if the US plays a war of attrition, it will lose 1,000 out of 1,000 times. You need the US to give up because of political pressure, and the easiest way to get that is through economic pressure.

We are now in the heart of the driving demand season. Global product inventories are low. SPR flow is running out. US commercial crude inventories are reaching levels at which US crude exports are shutting off. The rest of the world might have some barrels out of the Middle East that can last them through August or September, but what about after that?

What happens if China absorbs most of the barrels and there’s still 5 to 6 million b/d of production shut-in?

Most people seem to be paying attention only to what’s in front of them, not to what’s ahead. It’s like a man falling from a 40-story building, and you ask him if he’s ok on the 5th floor.

Yeah, he’s ok, but he’s not going to be in about 2 seconds.

We are not ok. If Iran contests the Oman route, that’s an estimated ~6 million b/d of flow that will be cut off. UAE, which saw exports surge to ~4 million b/d in June, will drop back to ~2 million b/d. The rest of the Middle East won’t be able to get the flows out in a manner that they like. Meanwhile, Iran will keep exporting its ~2 million b/d as if nothing happened.

But the US can never let that happen. The US can never let Iran control the Strait of Hormuz, because if it does, it will be able to hold the rest of the world hostage. So the only way out is through escalation, which is all but certain to make things worse before they get better.

That’s reality.

From a timing perspective and with the benefit of hindsight, early July was the pivotal all-or-nothing moment. The now or never title was meant to signify that all the stars were aligned, and coincidentally, that’s also when the escalation reached the current fevered pitch.

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Editor’s Note: This article was first published to paid subscribers on June 23. The original article is made public below.

The market is incorrectly assuming that the Strait of Hormuz will return to normal. Since the beginning of the Iran conflict, I saw this geopolitical event as all or nothing. Either Iran comes out victorious and controls the Strait of Hormuz or the US succeeds in toppling the regime and restores the Strait of Hormuz back to normal.

There was no in-between.

Now that the MOU is signed, effectively giving Iran control of the Strait of Hormuz, we are never going back to the way it was. Unless, of course, the US tries to restart the conflict and comes out victorious, but outside of this scenario, Iran is now the most powerful oil producer in the world.

It has been a week since the MOU was signed and the latest tanker traffic data is becoming obvious. Following the conflict in Lebanon over the weekend, IRGC announced that it stopped issuing permits and the current tanker activity exiting the Strait of Hormuz is related to existing permit holders.

Over the coming days, this will become obvious. But what should be even more glaringly obvious right now is the tankers coming into the Strait of Hormuz.

Since the announcement of the closure over the weekend, these are the tanker inflows for the last two days:

From a total vessel count, most analysts are looking at the bigger headline figures:

Source: Windward AI

But for the relevance of the oil market, production shut-in, we need to see sizable volumes of VLCCs going back into the Strait of Hormuz to change the math. At this moment, that is not happening.

Going forward, I will be publishing daily tanker counts, just like the table above, distinguishing between sanctioned and unsanctioned tankers and their types. That way, readers can see the emerging pattern, which is becoming obvious to me.

IRGC controls the Strait of Hormuz, and the inflow of crude-related tankers right now is dominantly going to Iran, with some leakage here and there for the others.

In my view, anyone assuming the Strait of Hormuz will return to normal is making a serious analytical mistake. This is especially true given the data that’s surfacing right now.

Variant Perception

It’s hard to believe that Brent is trading at $77/bbl, IRGC controls the Strait of Hormuz, 7 to 8 million b/d of crude oil production remains shut-in, and the market is max short Brent.

And the guy who’s long oil (me) is making a contrarian bet.

Unprecedented.

I don’t know whether I am currently stuck in the Matrix and the system is just messing with me, but this is the most surreal moment of my life so far. Either I am the stupidest person on the planet, or everyone has lost their mind. I think my view on the market is also about as binary as the setup I am seeing.

My variant perception of the oil market is simple. Everyone is in agreement on the onshore oil inventory draws.

Ex-China

Operational minimums are coming, but most people, probably because of the price, have seemingly overlooked this scenario because they are assuming the Strait of Hormuz will return to normal. And as a result, the oil market will be flooded as production surges back.

Yes, perhaps they are right, but I can tell you right now, based on the tanker inflows, this couldn’t be further from the truth.

In the last 6 days, Kpler estimates that 64.492 million bbls have exited the Strait of Hormuz. On an implied flow basis, this is 10.75 million b/d.

From the market’s perspective, this looks like the crisis is almost over, but again, it’s more nuanced than that. First, most of the exit volumes are tied to Iran. More than 35 million bbls of Iranian crude have exited the Strait.

Iran has let stranded tankers out. This is not a surprise, given that many of them have been stuck inside for over 3 months.

But the oil math was always about inbound tankers more than outbound tankers. Without a steady stream of inbound VLCCs, oil production shut-in continues, eating away at the inherent deficit in the global oil balance. It doesn’t matter whether China is reducing imports or refinery runs; the molecule isn’t replaced.

And so far, the inflow is a trickle. No surprise, because the IRGC is firmly aware of the math. During the 60-day negotiation period, they will max out this leverage and throttle the flow under the disguise of granting permits. By throttling permits, they can effectively control who comes in and who goes out. So you would be a fool if you think they don’t know that controlling the inflow of tankers will ultimately decide how much production shut-in returns.

In addition to the logic I explained above, it is now evident, based on discussions with tanker owners, that the tanker rates offered for ships transiting the Strait of Hormuz are astronomical compared with other regions. Not only is the price insanely high, but operators are having trouble assembling crews willing to take the risk of going in.

So no, the issue is far from resolved, yet everyone still thinks it will somehow be resolved because both sides signed an MOU. Just wait until Trump finds out that IRGC is throttling flows and not actually de-mining the Strait of Hormuz. Will he just ignore this reality and play along or will he have to face the inevitable choice of escalation?

I don’t know, and I don’t really care. What I do care is the number of tankers going in, and right now, the market is going to be very wrong about this because the IRGC is going to throttle flows.

This situation is worsening. The market has priced it as if it is resolved. This disconnect is why I am still bullish oil. Nothing more, nothing less.

Catalysts

In a normal oil market, every day that goes by, losing 7 to 8 million b/d should be a catalyst in itself. But clearly, we are not in a normal oil market because we have max Brent short positioning at a time when the conflict is far from resolved.

So let me go back to the first principle. What were the signals at the beginning?

• Crude timespreads

• Crack spreads

• Onshore inventory draws

We are 2 for 3. Crack spreads remain elevated. Onshore oil inventories continue to decline. But crude timespreads are weak.

Why are crude timespreads weak?

Simple.

Brazil, Russia, Venezuela, and US crude exports are up 2.2 million b/d y-o-y.

China crude imports are down 4.7 million b/d y-o-y.

Net: 6.9 million b/d delta.

OPEC crude exports are down 7.162 million b/d y-o-y.

Middle East crude exports are down 0.151 million b/d y-o-y.

Total: 7.313 million b/d.

The 6.9 million b/d delta swing, vs. the 7.313 million b/d decrease in crude exports, explains why we are not seeing panic in the oil market.

Over 68% of the delta belongs to China, so the question is simply: when will China buy crude again?

With sanctions on Iranian petroleum exports lifted, China will come in and buy all the barrels. At the start of the conflict, China banned product exports due to national security concerns. If the US comes out victorious and controls the Strait of Hormuz, it poses an existential risk to China; if Iran controls it, China gains major leverage.

Now that Iran controls the Strait, China will likely lift the product export ban and return the discrepancy between elevated crack spreads and depressed crude timespreads.

This is why it’s important, but first, let me explain what happens in a normal oil market:

Refining margins are a function of end-user demand, refinery throughput, and storage.

If refinery throughput is maxed out, and storage is low, and margins are up, that means demand is good.

In a normal market, crude timespreads go up because refineries that can increase would buy the crude and increase.

Since teapot refineries are currently operating at 50% (historically at 65%), they have significant spare refining capacity. By banning exports, you suck the marginal buyer of crude out of the market. These guys will buy crude if it means they can make $0.50 per barrel. That’s why Asian refining margins are usually depressed.

Once the product export ban is lifted, teapot refineries will pick up spot cargoes and lock in margins. This would, in theory, compress refining margins and lift crude timespreads higher. And since we have max short positioning in Brent, any reversal in timespreads will signal to CTAs to exit the market, creating a stampede.

And here is the caveat. Since refining margins continue to inch higher despite maxed-out throughput, and product storage is very low, even if Chinese teapot refineries start exporting products, crack spreads won’t necessarily crash. And like I said earlier, as long as these guys make money, they will buy the crude. So we could have a scenario where crude squeezes back up and refining margins keep pacing, creating a vicious cycle.

Now, could this happen soon?

Possibly. The market rumor is that Chinese refineries are increasing throughput in July. Now, if there were no product export ban lift coming, why would they keep producing at compressed domestic pricing margins?

I guess you can never know, but this is one of the first positive signals I’ve seen on the China front.

Outside of the China variable, the fact that inflow tankers will continue to illustrate the phenomenon I’m seeing, which is that the IRGC is firmly in control, should, in theory, be a catalyst in itself.

But again, you just never know with this market. Anything is possible and anything can happen.

Conclusion

The Strait of Hormuz is not going back to normal. All the sell-side analysts and others who are estimating normalized flow are making a big mistake. With the IRGC in control, Iran is now the most powerful oil producer in the world. They can throttle flows through the permit mechanism and you can bet money that these guys are tracking just how much implied oil flow is going through the Strait of Hormuz.

And to help clarify the math, it is very simple.

Pre-conflict flow: ~20 million b/d.

By-passes: 6.5 million b/d (conservative).

Net: 13.5 million b/d.

To achieve the desired deficit, throttle flows below ~13.5 million b/d. If the oil market is projected to be in a ~3 million b/d surplus, throttle flows to 9 million b/d, and you have a 1.5 million b/d deficit.

And if you want prices to go higher, throttle flows below ~9 million b/d.

Only time will tell who is right, but my job will be to track the daily tanker flows and report back. I will stay focused on what’s important and what’s important is the tankers going in, not the tankers going out.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of USO, UCO, BNO either through stock ownership, options, or other derivatives.

By: Wilson

I am not that smart. If you are subscribed to me thinking that I’m smart, you are shit out of luck. Thankfully, investing/trading does not require raw intelligence. It just requires someone humble enough to admit that they aren’t that smart and, more importantly, learn from their own mistakes. As Buffett always said, temperament is more important than IQ (I hope he is right).

Long-time readers will know that I have no problem admitting to my mistakes. I own up to them because my profit & loss is tied to my writing, analysis, and trading decisions. If I’m wrong, I lose money. If I’m right, I make money. Nothing more, nothing less.

With that, it’s important to write a reflection memo piece on the things that didn’t go so well on the oil trade so far.

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Geopolitically speaking, the Iran war is approaching the final escalation phase. From an oil math standpoint, the two main bypasses to the Strait of Hormuz- Fujairah and Bab al-Mandeb are now in the crosshairs. This morning, Houthis announced a blockade of all Saudi ships through the Bab al-Mandeb. We have seen them enforce the closure in the past, so it’s interesting to see the oil market completely shrug off this announcement.

In addition, tanker attacks along the Oman lane in the Strait of Hormuz continue. A 3rd vessel was attacked near Dibba, UAE, which is the closest it’s ever been to Fujairah. If my analysis is correct, Iran will force compliance in Fujairah, which will complete the final escalation of the oil math.

In this article, I will run you through some of the scenarios on the oil math. This should help inform you of the future path of where oil is headed.

Oil Math

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