The possibility of a short-term Nato-led military strike on Syria has intensified concerns over security of oil supply and could cause a spike in range of $120-$130 per barrel, according to a report released by BofA Merrill Lynch.

Prior to international sanctions imposed in late 2011, Syria produced 350 thousand barrels per day, added the latest Global Energy Weekly from Bank of America (BofA) Merrill Lynch.

Now, output is down to 50 thousand barrels per day. However, the real concern with Syria is that any conflict could draw in Iran, Russia, and other Middle East nations, the report said.

In a worst case scenario where Syria turns into a protracted Vietnam-style boots-on-the ground proxy war, BofA sees a swing of $50 per barrel.

Broad civil unrest, pipeline attacks, political tensions on top of ongoing maintenance in key producing countries in the Middle East and Africa could push Brent crude oil prices to $120 per barrel, BofA highlighted in it recent note.

With a global oil shortfall as large as 4 million barrels per day, the possibility of an imminent Nato-led strike on Syria has pushed Brent crude oil prices above $116 per barrel.

Emerging Markets ‘weakest link’

While oil demand in the US and Europe is starting to recover after a harsh downturn, oil demand is looking weaker in Brazil, Indonesia, Turkey or South Africa on tighter liquidity and capital outflows, while India is battling a major crisis in confidence, according to the report.

Also, EM FX (emerging markets foreign exchange) depreciation is sending oil prices in local currencies soaring, suggesting any oil demand destruction on the back of this Middle East turmoil will happen now in EMs.

On top of that, OECD commercial oil stocks outside the US have come down by 26 million barrels from April levels, although a coordinated release of government stocks could relieve pressure on oil prices if done promptly, the report said.

Crude oil volume markets have reacted to the threat of war in a predictable fashion. Implied volumes overall have picked up, but more so in the front than in the back, BofA highlighted.

Brent ATM volume structure, which has been in contango in the front of the curve for weeks, is now in backwardation. Front month Brent options now show a call skew for the first time since 2011, reflecting an increased demand for bullish structures in Brent.

In the less likely event of a Nato ground invasion, near dated volumes could spike even further and also lead to a more pronounced call skew.

Front month volumes and skew should grind lower once the tension is diffused, the report noted. – TradeArabia News Service