This article was written by Peter McNally, Global Head of Sector Analysts at Third Bridge.
The escalation of the conflict in the Middle East over the weekend pushes energy markets into unknown territory. In the near term, almost everything depends on how Iran responds. We really have no idea what the response is going to be, but our experts would tell us to expect more volatility. Rather than focus on something that can’t be analyzed, we can point to a few areas that are likely going to be involved in some way in the weeks and months ahead.
There have been three fundamental changes in the global energy system over the past 10 years that must be understood when analyzing what comes next. First, for the oil market, OPEC has ceded market share to a more diverse group of countries, both in terms of size but also geography. The shale revolution in the United States is the most significant, but the world is better able to source crude oil from a number of non-OPEC countries. Second, in natural gas, the US has emerged as the dominant force in global trade, becoming the largest source of liquefied natural gas (LNG) in the world. Third, despite the on-and-off-again nature of incentives, renewables are a far greater part of the world’s energy mix, softening the potential impact of a spike in oil prices on consumers. Again, much is unknown about how Iran will react and what comes next, but now let us look at the three big changes that have already taken place.
Crude Oil – Changing Supply Dynamics
After touching a four-year low in both April and May, crude oil prices have rallied more than $15/bbl over the last six weeks on heightened geopolitical tensions but also, seasonally stronger demand, easing concerns about tariffs leading the global economy into recession, and to a lesser extent, the hesitancy of US producers to drill more. However, the price rally has been concentrated in near month crude contracts implying that either tensions would be short-lived or the market will rebalance in a matter of months with a combination of increased supply and weaker demand.
Can the world replace Iranian oil? Yes.
While definitely not immediate, the combination of spare OPEC capacity and continued growth of non-OPEC supply could certainly fill a gap if Iranian barrels left the market. This year, Iranian crude oil production has averaged 3.3mm bpd (million barrels per day) but exports have been only about half of that–1.6mm bpd. For the decade ending this past March, US production alone has grown by 3.9mm bpd–an extraordinary development that has changed the dynamics of the oil market. This has been the biggest and most impactful development in a larger trend: the growth of non-OPEC supply. If we combine the growth of the US, Canada, Brazil, and Guyana, their total growth has been 6mm bpd. While the pace of US growth has slowed, output has continued increased despite a decline in drilling activity.
These non-OPEC countries have created a meaningful amount of OPEC spare capacity. Third Bridge experts estimate that between Saudi Arabia and the UAE there is 2.5mm bpd of crude oil capacity that could come on quickly. Over the course of year or more, the larger OPEC+ group could add more than 5mm bpd. Probably not since the 1980’s has there been this much spare oil capacity in this many places. Since the start of April, OPEC has actually been increasing production for the first time since 2022. While the potential loss of Iranian barrels would shock the market initially, there are options to deal with it.
Can the world replace all of the oil that travels through the Strait of Hormuz? No.
As the transit point for more than 14mm bpd of crude oil, this is the biggest bottleneck in the global crude market. While the Saudis have some ability to flex their exports to Red Sea ports, Houthi rebels, aligned with Iran, have been responsible for disrupting maritime traffic for more than 18 months now.
Will US producers respond? Third Bridge experts doubt that this will happen right away.
Production could respond, but it probably won’t. US oil drilling activity peaked in late 2022, but production continued to grow with improved productivity. Our industry specialists have said prior to these events that these producers would need a sustained period of higher prices before committing to higher levels of activity. It was only on May 5 of this year that Diamondback Energy, one of the largest US independent producers, very publicly announced their intent to cut capital spending and the number of rigs it was deploying. Other producers have followed suit. While there may be a reaction from smaller, private US producers, the bigger players would need to see prices over $75 for six months before a response is seen. So far, the rally in crude prices has been concentrated in the near months. As of the market close on Friday, June 20 before the US military strike in Iran, average West Texas Intermediate crude prices for the back half of 2025 are just below $70.
Global Liquified Natural Gas – The US Has Become the World’s Top Supplier
From virtually zero a decade ago, the United States has overtaken both Australia and Qatar to be the world’s largest supplier of LNG. The shale revolution in the US actually began in gas, years before it happened in oil, but the market became quickly saturated. Exports of LNG became the answer for the abundant resource. Top US LNG exporter Cheniere Energy had a market cap of less than US$200mm at the depths of the financial crisis but stands today with an enterprise value of US$80 billion and generated over US$30 billion in EBITDA over the past 3 years.
US LNG exporters delivered for Europe in the wake of Russia’s invasion of Ukraine and could be called on again to increase exports if the Qatari supply through the Strait of Hormuz is disrupted. Lead times for LNG projects are far greater than crude oil, but the industry has been targeting growth. Venture Global (VG) went public earlier this year in a deal that flopped with investors but has seen its share price recover in recent months.
Renewables – Providing Some Insulation from Fossil Fuel Price Spikes
While debates rage on renewables, they tend to end up in two categories: reliability and subsidies. The recent outage experienced in Portugal and Spain is still hotly debated. We have had our own experts weigh in. Renewable policy has been difficult to keep up with all of the changes that have been occurring by different governments around the globe. However, the one thing that is undeniable is the constant growth of renewables in the power sector, and the displacement of some fossil fuels.
Energy security really is the ability to diversify supply sources. Cheap forms of energy don’t always last stay cheap, and high prices often attract capital–witness the shale revolution that occurred after a period of high oil & gas prices.
