What if the assumptions embedded in the oil curve are wrong?
That’s the question J.P. Morgan analysts, including Natasha Kaneva, J.P. Morgan’s Head of Global Commodities Strategy, asked in a report sent to Rigzone by Kaneva recently.
In the report, the analysts highlighted that the duration of the U.S. Iran conflict has “extended substantially” beyond what they “penciled in” back in May, when they expected the Strait to reopen in June. They outlined in the report that the oil market has been “repeatedly pushing normalization out by a few months, only to roll it forward again as time passes”.
“For much of the past six months, the forward curve has effectively delivered the same message: the tightest point in the balances is now. Tomorrow will be easier. A few months from now, easier still,” the analysts pointed out.
“But what if the assumptions embedded in the curve are wrong,” the analysts asked in the report. Tackling this question, the J.P. Morgan analysts warned that, for the conflict to end, “it seems some red line needs to be crossed – whether in the economy, financial markets, or inflation”.
“So far, none has. The U.S. stock market is near record highs. The U.S. economy has proved resilient, with AI investment supporting corporate earnings. Consumers, meanwhile, have largely looked through the inflation shock, relying in part on the wealth effect to sustain spending even as higher prices erode real purchasing power,” they added.
“Long-term U.S. rates are higher, but they may simply reflect a shift in the Fed’s reaction function: policymakers entered 2026 expecting several cuts and now appear to be leaning toward hikes,” they continued.
“If the economy remains resilient and markets remain strong, what forces the status quo to change? And if nothing changes, how long can it continue? If the conflict lasts far longer than the futures curve assumes, how mispriced is the curve? And, more importantly, is our own $80 4Q26 price forecast at risk?,” they went on to state.
The short answer from the oil market is that, yes, the status quo can likely continue and the conflict could last considerably longer, the J.P. Morgan analysts said in the report.
“But that does not mean oil prices need to move materially higher from here,” they pointed out.
“In fact, under such a scenario, the curve looks mispriced in a surprisingly counterintuitive way,” they said.
“Focusing on the next 16 months, we estimate that prices are about $6 too high at the front of the curve, but $10 too low at the back. And yes, our price target for the final quarter of the year could be too low, but only by $8,” they added.
According to the J.P. Morgan analysts, three forces have helped contain the crisis.
“First, 2022 showed just how fungible oil is: barrels find a way to flow,” they said.
“Second, inventories have drawn far more slowly than we forecast in May. Outside the U.S., China, and, to a lesser extent, Japan, the rest of the world has drawn surprisingly little from stocks,” they added.
“One explanation is that policymakers, uncertain how long the conflict will last, are saving inventories for a potentially more difficult moment. There is little incentive to release emergency reserves when oil is trading at $100 if you fear you may need those barrels later,” they continued.
“Instead, the burden of rebalancing has fallen on consumers, as companies and households responded by economizing on oil,” they went on to state.
The analysts revealed that in a “forever conflict” scenario, they expect these same adjustment mechanisms to persist.
“We assume Middle East flows, including rerouted barrels, remain around the levels observed over the past three weeks, when regional exports averaged roughly 13.5 million barrels per day, about 10 million barrels per day below normal,” they said.
“As has been the case so far this year, we expect that shortfall to be absorbed through four offsets,” they noted.
“First, the market entered the conflict with excess supply … Second, high prices are accelerating the supply response outside the Middle East … Third, and most importantly, demand has absorbed the largest share of the shock … Finally, inventories provide a buffer, but importantly, they do not need to absorb the full remaining shortfall,” they added.
“Taken together, lower demand, pre-war surplus, and stronger non-Middle East supply leave the global oil market close to balance in 2027,” they continued.
The J.P. Morgan analysts highlighted in the report that, even if inventories fall to their estimated “stress threshold” of 7.6 billion barrels, their balance suggests they could stabilize around that level rather than continue falling materially lower.
“This mix matters for price formation: while falling inventories push prices higher, falling demand pulls them lower,” the analysts pointed out.
“The result is counterintuitive: in a ‘forever conflict’ scenario, Brent could average just $87 in 2027, compared with $64 in our baseline scenario in which the world enters 2027 at peace,” they added.
In a research note sent to Rigzone on Thursday, analysts at HSBC, including Paul Bloxham, HSBC Chief Economist, Australia, NZ, and Global Commodities, highlighted that, “six months after the Iran war began, it remains unresolved and is still a key driver of commodity prices”.
“Although inventory rundown has helped to prevent more extreme price spikes, commodity markets are still being supply-squeezed,” the analysts warned.
In a report sent to Rigzone on Wednesday, Emily Ashford, Standard Chartered Bank’s Energy Research Head, outlined that, at the annual APPEC conference in Singapore, which took place from September 7-10, discussions “reinforc[ed]… the sense that market participants are increasingly positioning for a prolonged U.S.-Iran conflict”.
“While the intensity and location of hostilities may continue to fluctuate, few appear to expect a near-term return to pre-conflict normality,” Ashford revealed in the report.
“The prevailing expectation is for an extended period of intermittent escalation, retaliation, and negotiation, leaving the risk premium associated with Gulf supply and shipping disruption structurally embedded,” Ashford continued.
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