Threats from President Trump to bomb Iran again and Iranian negotiators leaving the talks in Switzerland once again clouded the outlook for one of the world’s busiest oil chokepoints. Talks are progressing, but the degree of uncertainty about global oil supply security remains high—because of the risk environment in the strait, of which most appear to be oblivious. Social media users have started calling Hormuz the Strait of Schrodinger, and with good reason. It is not only about whether the passage of vessels is unobstructed by Iranian forces or a U.S. blockade. It is about shippers, insurers, and other stakeholders in an oil shipment being able to track that passage, energy analytics firm Kpler wrote in a recent analysis of the situation that puts the risk context of the U.S.-Israel war with Iran in the spotlight.
Most of the media and analyst coverage of developments in the Strait of Hormuz has focused on a rather simplified narrative centered on the binary of open/closed. However, Kpler trade risk analyst Ana Subasic wrote last week, this is misleading because there is a lot more than that at play. An oil cargo needs to be tracked in a reliable manner along its voyage for reasons related to insurance and sanctions compliance.
“A vessel may be able to transit the Strait,” Subasic wrote. “But if its movement cannot be reliably observed, because GNSS spoofing has degraded or manipulated its positioning data, then its voyage record is compromised. Port-call verification fails. Exposure mapping breaks down. Voyage reconstruction becomes contested.”
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All this is essential for everyone involved in an oil cargo trade, and all of this appears to be largely ignored by the market generally, as media reports focus on the simplistic open/closed narrative that drives prices on the futures market. On the physical market, however, all of the above matters a lot more than the words “open” or “closed”, as evidenced by the often substantial differences we have witnessed between futures prices and physical delivery prices. And it seems the situation is about to become even more complicated.
Lloyd’s List last week reported that Iran had launched obligatory insurance for every vessel traversing the Strait of Hormuz, to be provided by the newly minted Persian Gulf Strait Authority. Initially, the insurance coverage will be free, Lloyd’s List wrote, but it will not stay free forever. “This insurance is provided free of charge to the vessel owner, with all expenses covered by the Islamic Republic of Iran,” a document released by Tehran and cited by the insurer said. “The PGSA reserves the right to introduce insurance fees in the future… Owners will then be required to purchase and renew coverage accordingly.”
The Persian Gulf Strait Authority will also be the sole entity that can issue permits for vessels to transit the strait, according to the document and set the route, which these vessels must use to pass through. Lloyd’s List quoted one tanker owner as saying that “It’s madness. This whole situation is a mess.”
The above development is a clear illustration of how complicated the situation is in actuality and why the open/close story is basically irrelevant. “The relevant questions are who is crossing, when they are crossing, under what risk profile, and whether that profile creates exposure for the parties connected to the voyage — owner, charterer, insurer, bank, cargo counterparty,” Kpler’s Subasic wrote.
Before the United States and Israel launched their opening strikes on Iran, all of the above were a given—information openly available to all stakeholders. Now, there are a lot of gaps in that information, and insurers and banks do not like gaps, especially in an environment that, in addition to a hot conflict, features a sanctions regime that also needs to be navigated safely, in addition to the physical chokepoint.
What this means for the price environment in crude oil is higher insurance costs, because information gaps and uncertainty mean more expensive cargoes, as Malaysia’s New Straits Times noted in a recent report about the maritime costs of shipping oil out of the Persian Gulf. Before the war, the insurance of a Very Large Crude Carrier came in at about $150,000 to $225,000 per voyage. After the war began, this spiked to between $5 million and $7.5 million.
Such spikes are the smallest problem, however, from a long-term perspective. The bigger problem is the existence of those information gaps that Kpler’s Subasic wrote about. These gaps will likely fuel extra uncertainty about oil transport via the Hormuz strait for a while yet, regardless of whether or how well peace talks progress this week. The fact that futures markets do not reflect this extra uncertainty is yet another piece of evidence of the divorce between physical and paper markets in oil.
By Irina Slav for Oilprice.com
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