Iran crisis could send crude soaring: Macquarie's Jal Irani

“We see a material upside risk to crude prices because of Iran,” he told CNBC-TV18 in an interview. Macquarie estimates that roughly 2.5 million barrels (oil) per day is at risk because of the festering tension in the Middle East triggered by Iran’s belligerence regarding its nuclear policy.

Irani feels the Organisation of Petroleum Exporting Countries (OPEC) will find it difficult to match this shortfall, says Irani. Already, many countries have already stopped importing oil from Iran, while some others, India include, have reduced their purchases from Iran.

“Even if OPEC matches supply (of 2.5 mbpd), further headroom will be low… a (potential) war in Iran could lead to a significant oil shock,” he says.

At the current price of around USD 123 per barrel, crude prices have risen 15% in the last couple of months (45% over the last one year) since the problem over Iran’s nuclear stance surfaced. The high crude oil prices have severe implications for countries like India which are heavy importers of oil.

Already in the first nine months of the current financial year (April-December), India’s oil import bill has risen nearly 40% to USD 106 billion, and accounts for nearly 80% of the trade deficit. The problem comes at a time when the government is trying hard to control the widening current account deficit which is putting pressure on the rupee.

Among the plays on the oil sector, Irani is bullish on BPCL and ONGC .

Below is an edited transcript. Watch the accompanying video for more.

Q: What are you penciling in terms of crude prices? Where do you think it may likely range for the course of this year?

A: We believe there is a material upside risk to crude oil prices. The risk is in the form of Iran supplies decreasing. Essentially, the world right now has a surplus oil capacity of 3.8 million barrels a day. Iran itself produces 2.5 million barrels a day.

The EU which consumes about 0.8 million barrels a day has firmly stated that by the middle of this year it is going to stop consuming from Iran and there is pressure on Asia to similarly do so. As a result, press reports suggest India, China and Japan are going to reduce production by 10% fairly soon. We are essentially talking about 0.9 million barrels a day going out very quickly and over a period of time a total of 2.5 million barrels a day at risk from Iran.

Out of the spare capacity of 3.8 million barrels a day, 2 million barrels a day are with OPEC members other than Saudi Arabia. Now at USD 125 per barrel, we feel these OPEC producers are anyway producing full blast. So, one gets the feeling that there isn’t really spare capacity on that front.

Even Saudi Arabia, with 1.8 million barrels per day spare capacity, they claim they can turn the taps on in about a month’s time. I suspect that’s never been tested and also if they do indeed turn the taps on then they fire all ammunition. Therefore, one is looking at severe shortages in oil and perhaps we are already at that stage where there is not material oil available in the world already. Therefore you can see prices relentlessly going up.

In the worst case scenario that there is a war in Iran then the Strait of Hormuz which it controls, about 20% of the world’s oil trade takes place through that. Now that is going to be a very severe situation because from what our understanding is the Strait of Hormuz is potentially going to be targeted specifically by Iran where it does enjoy some significant strategic advantages. So the risks are indeed significantly on the upside.

Q: What would that translate into for a target range? You said we are already sitting at USD 120/bbl? The fear is how markets may react if it actually shoots to about USD 150/bbl?

A: For the moment oil prices have already surpassed that target range. I would think the risk is indeed on the upside. I can't say at the moment what price we are looking at because beyond a certain level we should also be seeing price destruction but these premiums at the moment are only likely to rise.

Q: What’s the call on something like BPCL? How have you read this talk about Cove Energy? What do you think should be value for that particular asset because that’s what’s really got BPCL fired up?

A: The strategy of the oil marketing companies and especially BPCL, to diversify away from non-fuel retailing is paying off big time. This is within the energy space but away from non-fuel retailing. Two ventures that BPCL has focused on as a result are upstream and the second is refining assets in terms of Bina Refinery. On upstream, they do have a 10% investment through a 50% joint venture partnership with Videocon, they have got a 10% holding in most Mozambique.

Royal Dutch Shell is looking to buy out Cove Energy which has got an 8.5% stake in the Mozambique block. The value effectively for BPCL’s 10% stake translates into Rs 230 per share for BPCL and this is something which the market hasn’t particularly been factoring in because Mozambique itself is a potentially very large global gas player that has really developed only in the last year-and-a-half or two-years basically.

Mozambique has had eight gigantic gas finds which could support six LNG terminals potentially making Mozambique among the top three LNG and gas producers of the world. The resource estimates that one is talking about Anadarko as the operator has given out ranges between 15 and 30 trillion cubic feet (TCF) which by any means makes it gigantic. Even two or three days back, Anadarko announced yet another large find there.

Royal Dutch Shell is buying this out. Clearly, this 8.5% is a stepping stone into perhaps the next big region in the world for gas at the moment which is East Africa. When we extrapolate that value onto BPCL, it comes to as much as USD 1.7 billion or Rs 230 per share. Mind you, BPCL has also got about Rs 40 per share value that we estimate in Wahoo, Brazil again with Anadarko and a few others which are perhaps at this stage smaller, Indonesia and another dozen exploratory assets around the world.

So there is a huge amount of value which is playing out from this non-oil retailing play. It has been a refinery which has got on-stream one of the most complex refineries in the world. It has nearly reached breakeven utilisation levels very quickly. It’s a refinery which could easily earn GRMs of USD 9-10 per barrel, perhaps even more because it has got a pipeline itself which will add a dollar and a half. That we feel could start contributing to profits within a year’s time. A lot happening in BPCL which actually is effectively partially taking it away from these various subsidy issues.