The warning signs were there from the get-go. Iran repeatedly vowed tough revenge after last week’s killing of top commander Qassem Soleimani. Yesterday, an Iranian security official said it was considering 13 “revenge scenarios”. His belligerent tone was echoed by the country’s foreign minister who pledged to respond “proportionally” to the US drone strike. Retaliation always felt close at hand but was inevitably going to be at a time and place of Tehran’s choosing.

Iranian retribution finally came in the early hours of this morning after it fired more than a dozen rockets at two Iraqi air bases housing US and coalition troops. The attack took place hours after the four-day burial of fallen soldier Soleimani. This marks the most direct assault by Iran on US assets since seizing the US embassy in Tehran 40 years ago. There have been no reported casualties in what could be argued as a modest response on the part of the Iranians. What is more, Iran appeared to draw a line under its retaliation after its foreign minister tweeted that it is not seeking war. Trump’s initial response also seemed fairly measured. The US President tweeted “all is well and “so far, so good” following the missile attacks. Neither side, it seems, wants to get embroiled into wider conflict. Yet trigger-happy Trump could easily be drawn into tit-for-tat retaliation.

Oil prices spiked in the wake of the Iranian missile attacks. Brent scrambled past $71/bbl before retreating below $69/bbl as the       knee-jerk reaction faded. Further bouts of price strength are anticipated as fears of escalating confrontation and the spectre of supply disruptions continue to grip the market. That is to say market players will not want to get caught short in this new chapter of unease in the Middle East.

As we await the next move in the US-Iran confrontation, an API report concerning US oil stocks provided a welcome distraction. In what was once again a tale of two stories, crude and product inventories headed in opposing direction. Crude stocks fell by a forecast-beating 5.9 million bbls and included a 1 million bbl drop at the Cushing hub. Gasoline inventories rose by 6.7 million bbls compared to expectations for a 2.7 million bbl gain. Meanwhile, distillate fuels stockpiles jumped by a bigger-than-expected 6.4 million bbls.

Investing fraternity on a high

Financial speculators are viewing the crude futures complex through increasingly bullish-tinted glasses. Bets on rising prices saw a sharp upswing in the year-end period of 2019. Net speculative length (NSL) in the two leading crude futures rose in each of the four weeks to December 31. Bullish bets on combined ICE & CME WTI surged by 155 million lots or 90% to 326 million bbls. This was up sharply from 121 million bbls at the end of 2018. As for ICE Brent, NSL increased by 79 million bbls or 24% to 410 million bbls, the highest since October 2018.

This flurry of optimism should come as little surprise. After all, WTI and Brent rallied 10% and 5% respectively in the final month of 2019. Buying pressures were buoyed by a host of supportive developments. For starters, the US and China took a big step towards settling their trade differences after agreeing to an interim deal. Meanwhile, the OPEC+ alliance agreed to deepen output cuts in 1Q20. Also acting as a pillar of price support was the drawdown in US crude stocks. Inventories shrank by 17 million over the course of December, according to preliminary EIA data. And then there was the record-setting stock rally on Wall Street which further added to the bullish cocktail.

The question now is whether the feel-good factor will last? The explosive start to the New Year may well suggest that the upward trajectory will be maintained. Oil prices jumped as the geopolitical risk premium struck with a vengeance following the killing of Iran’s most prominent military commander by a US drone. Following several pledges of retaliation, Iran launched a salvo of rockets at US assets in Iraq. Though there were no reports of casualties, this has fanned tensions in the region and with it, the threat of supply disruptions will endure.

Aside from heightened geopolitical risks, there are other reasons for the bullish bandwagon to be cautiously optimistic. For one, US crude production growth is slowing. The IEA sees total U.S. oil production growth slipping to 1.1 mbpd in 2020 from 1.6 mbpd last year. All the while, there are signs that OPEC’s laggards are beginning to comply with output cuts. Surveys from Reuters and Blomberg revealed Iraqi and Nigerian production fell in December as they made a concerted effort to adhere to agreed quotas.

The bottom line is that there appears much for bulls to hang their hats on. Even so, doubts over the health of the oil market are still widespread. Put simply, there is no consensus on whether deeper OPEC-led cuts will prevent global oil stocks from building. The EIA and OPEC expect the market to be balanced in the current quarter whereas the IEA forecasts a 700,000 bpd surplus. Another fly in the bullish ointment is the fact that non-OPEC supply growth will once again this year eclipse global oil demand growth. In other words, oversupply concerns will continue to stalk the energy complex despite OPEC+ supply curbs. With so many forces at play on both sides of the oil market, one thing is guaranteed: volatility will be the buzzword for 2020.