Rory Johnston: This is When Oil Prices Will Shoot Higher | Demand Destruction

Key Concepts

• Strait of Hormuz: A critical maritime chokepoint for global oil, through which approximately 20 million barrels per day (bpd) of oil and refined products typically transit.
• Backwardation: A market condition where the spot price of a commodity is higher than the price of futures contracts, signaling immediate supply scarcity.
• Demand Destruction: The process where high prices force consumers to reduce consumption, used here to describe the potential outcome if supply remains constrained.
• Stock and Flow Model: A framework for viewing oil markets where "stocks" (inventories) are depleted by "flows" (consumption) that cannot be met by current production.
• VLCC (Very Large Crude Carrier): Massive tankers capable of carrying approximately 2 million barrels of oil.
• SPR (Strategic Petroleum Reserve): Government-held emergency stockpiles of crude oil.

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1. Supply Disruption and Market Math

Rory Johnson highlights that the conflict has resulted in a massive supply hole.

• The Scale: 20 million bpd normally transit the Strait of Hormuz. While 7 million bpd have been successfully rerouted (primarily via the Saudi East-West pipeline and other regional infrastructure), 13 million bpd of production remains shut in.
• Cumulative Loss: As of the interview, the cumulative loss is over 500 million barrels. If the Strait remains closed, this figure is projected to reach 900 million to 1 billion barrels.
• Inventory Reality: While global stocks are cited at 8 billion barrels, Johnson argues only about 2 billion are "true" commercial stockpiles, as the rest consists of oil in transit (pipelines/water) or operational minimums.

2. The "Unobtainable" Threshold

Johnson explains that the market is currently in a state of "lost time."

• Refill Lag: Even if the Strait were to reopen, the system requires weeks to months to ramp up production and rebalance logistics.
• Global South vs. Advanced Economies: Advanced economies have higher purchasing power and can "bid away" cargoes, leading to price shocks. In contrast, the Global South faces physical shortages, with gas stations running dry and power grids failing (e.g., Pakistan’s LNG shortages).
• China’s Position: Contrary to narratives that China is the primary victim, Johnson notes that China’s aggressive building of strategic reserves over the past few years has left them as the most energy-secure nation in Asia during this crisis.

3. Market Behavior and Price Paradox

Despite the massive supply loss, Brent crude has remained below $100–$115/barrel, which Johnson finds "shockingly low."

• Lack of Forward-Looking Pricing: Commodity markets are not inherently anticipatory. They react to physical scarcity (drawdowns in inventory) rather than future threats.
• The "Trump Factor": Johnson identifies unprecedented verbal intervention from the White House as a primary driver of market volatility. Trump’s frequent social media posts signaling an imminent end to the conflict have repeatedly "blown out" traders betting on higher prices, creating a "sorting effect" where market participants are now afraid to price in the full extent of the supply risk.
• Backwardation: The crisis is manifesting in the futures curve (steep backwardation) rather than the flat price, confirming that the market is paying a massive premium for immediate, prompt-deliverable barrels.

4. Geopolitical Incentives and Negotiation Dynamics

• Trump’s Strategy: Johnson argues that Trump’s policy has been a failure regarding his goal of "energy affordability." Sanctions on Venezuela, Russia, and Iran have tightened the market, and the current war has exacerbated this. Trump is perceived as "desperate" for a deal to avoid a recessionary price spike before midterms.
• Iran’s Strategy: Iran is in no hurry to settle. By keeping the Strait closed, they exert maximum pressure on the U.S. and Israel. They are demanding recognition of their right to control traffic through the Strait, a concession that was never on the table during the JCPOA.
• Israel’s Role: Netanyahu views the conflict as an opportunity to dismantle Iranian proxies (Hamas, Hezbollah). However, Israel is dependent on U.S. military support; if the U.S. forces a ceasefire, Israel is unlikely to continue the conflict alone due to the risk of severe damage from Iranian missile strikes.

5. Synthesis and Conclusion

The main takeaway is that the global oil market is in an unsustainable, high-risk state.

• Base Case: Johnson expects the conflict to end with Iran maintaining some form of recognized control over the Strait of Hormuz.
• Market Trajectory: He anticipates a "sharp down" in prices upon the announcement of a ceasefire, followed by a "grind higher" as the market realizes the physical supply damage (over 1 billion barrels lost) and the logistical nightmare of rebalancing global tanker fleets.
• Final Insight: The crisis is a "catastrophe" for the current administration’s energy goals. The market is currently "sanguine" due to verbal interventions, but the physical reality of the supply loss will eventually force a reckoning, regardless of political rhetoric.