Red lights are flashing on the scarcity of oil

New York (CNN) — Six weeks ago, the world was practically swimming in crude oil. The market was oversupplied and prices were low and stable. But now, some parts of the energy market are acting like the world is on the verge of running dry.

That’s because the war in the Middle East has sparked the biggest oil supply disruption on record, sidelining an estimated 12 million to 15 million barrels of crude oil per day.

A supply shock of that magnitude is simply not sustainable. Neither emergency oil releases nor promised production hikes from OPEC+ can fill the gap.

Now, red lights are flashing in the market about the physical supply of barrels needed to meet demand and power the world economy.

“The longer this goes on, the scarier it is. Today we might not have a shortfall, but eventually we will,” said Andy Lipow, president of Lipow Oil Associates.

“If we continue on the path we are on now, we will run out of fuel,” he warned.

The market is acting weird

The futures and physical oil market are signaling major warning signs.

Contracts for delivery at the end of this month are trading at a hefty premium compared to contracts for subsequent months. It’s a situation known as backwardation, and it suggests the market believes oil supply is at risk, particularly for longer-term contracts.

Supply constraint is the biggest factor in US oil futures nearly doubling in price so far this year, and it’s only April. Brent, the international benchmark, has spiked above $110 a barrel.

But the price of actual barrels of oil on the ground is increasing even faster – another light that’s flashing red. “Dated” Brent, which measures the price of physical barrels in the real world, hit $141.26 last week – its highest price since 2008.

“It’s like the last bottle of water: You’re willing to pay anything for it,” said Vikas Dwivedi, global energy strategist at Macquarie Group. “Valuing physical oil during a supply shock is more art than science.”

In another sign of scarcity, Saudi Arabia, the world’s most prolific oil exporter, is reportedly charging customers record premiums for its crude.

Saudi Arabia is asking for a $19.50 premium to deliver oil to customers in Asia compared with benchmarks for Arab Light crude and up to $30 above Brent to customers in Europe, according to the Financial Times.

Americans are paying the price, literally. Lipow estimates they’re spending — directly and indirectly — about $830 million more per day on gasoline, jet fuel and other transportation fuel relative to before the war started.

Jet fuel spikes, airlines cut flights

Although oil markets have been getting most of the attention, potential shortages of refined products like jet fuel, diesel and gasoline could become a difficult problem for the economy to overcome.

Jet fuel prices have doubled over the past month as crude supply problems have translated into supply constraints. Airports typically store just a few days’ worth of jet fuel, and airlines largely stopped hedging and storing their own fuel in recent years.

Lipow said he’s “very concerned about jet fuel.” Still, he noted that well before the industry would ever run out of jet fuel, airlines would start canceling flights.

That trend is already happening, with some airlines scaling back their capacity. For instance, United Airlines plans to cut 5% of its schedule over the next six months – including its key summer travel season.

Other airlines have already started raising ticket prices and lifting dreaded baggage fees. Some airports in Italy have introduced fuel restrictions for flights, according to Bloomberg.

Rationing fuel and limiting exports

If the war continues and the Strait of Hormuz remains closed for six to eight more weeks, Dwivendi said diesel shortages could become possible – and even gasoline shortages if the strait remains closed through the summer driving season.

Those problems aren’t easily overcome. Unlike crude, which can find alternate shipment routes, jet fuel, diesel and gasoline are typically piped from refineries to warehouses.

The most vulnerable parts of the United States are the East Coast and the West Coast, both of which typically rely on some foreign imports to meet demand.

“The West Coast market could go apeshit in a moment’s time,” said Tom Kloza, an independent oil analyst who works as an adviser for Gulf Oil.

Some countries, fearing shortages, have started to impose restrictions in a bid to narrow the yawning gap between supply and demand.

On the supply side, China, Thailand, Pakistan and South Korea have restricted exports, while Russia has banned gasoline exports amid the war with Ukraine.

To ease demand and fight shortages, some countries in Asia are rationing fuel, including Myanmar and Bangladesh.

Of course there is a cost to those restrictions, including slowing local economies.

The United States, the world’s largest oil producer and a leading refiner of fuel, is more insulated than other countries from the supply crunch.

Yet the US is not immune to the same physical scarcity of oil and fuel that is already forcing other nations to make difficult decisions.

“It’s like there is one great gaping hole in the hull of a ship,” said Kloza. “The problem starts in Asia, then Africa and Europe. And at some point, it will catch up to us in the United States.”

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