Oil Markets Balance Supply Risks, Hormuz Flows and Tight Diesel Inventories

Oil prices are moving cautiously as the market weighs improving crude flows through the Strait of Hormuz against continued geopolitical tension and tight fuel inventories. Prompt WTI futures were slightly higher this morning after recovering from overnight losses of more than $1.50 per barrel.

The Strait of Hormuz remains one of the biggest sources of uncertainty. The U.S. Justice Department is preparing to bring back a maritime war court that could help streamline the military capture of Iranian oil tankers as U.S. prizes, with the goal of strengthening the blockade and helping offset the cost of the conflict. At the same time, Iran is adding insurers of ships it considers to be violating its rules in the Strait to a list of “non-compliant vessels.”

Despite those tensions, crude movements through the Strait have been improving. Kuwait and Qatar are sending more crude through Hormuz, with shipments reported at roughly 70% of pre-war levels. Around 7 million to 8 million barrels per day of crude are now exiting the waterway. Saudi Arabia has also increased crude loadings in the Persian Gulf as some flows are diverted away from the Red Sea because of continued Houthi security threats. Iraq, meanwhile, is giving buyers the option to collect crude outside the Persian Gulf through ship-to-ship transfers near Oman next month.

Shipping activity is showing some improvement, but conditions remain far from normal. Visible commodity vessel transits through Hormuz increased to 10 on Wednesday from eight on Tuesday, according to Kpler data. That remains below the 10-day moving average of about 15 vessels. Iran and Oman are also continuing discussions over an agreement governing the Strait. Adding to the uncertainty, a tanker was hit by an unknown projectile in the waterway early Thursday, although the resulting fire was extinguished.

The broader Middle East conflict is also changing the way the global oil market operates. OPEC+ accounted for about 40% of global oil production in July, down from more than 48% before the U.S. and Israel attacked Iran in late February. The disruption has limited the group’s ability to influence prices because several producers face physical constraints on how much oil they can move to market. Since March, the core OPEC+ group has announced six production increases, but most have had limited impact because the Hormuz blockade has restricted exports.

That means traders are increasingly focused not simply on how much OPEC+ wants to produce, but how much oil can actually be produced and exported. At the same time, China has become an important counterweight. Since the war began, China has purchased roughly 400 million fewer barrels of oil than during the same period last year. Lower refining activity, a ban on fuel exports and increased use of electric transportation have contributed to weaker crude demand, helping put a ceiling on oil prices despite the major supply disruption.

Outside the Middle East, geopolitical risks are also building around Russia and Ukraine. Russia is preparing for a possible escalation of attacks after peace talks reached a dead end, including potential ballistic missile strikes on Kyiv and infrastructure in other Ukrainian cities.

Diesel supply remains another important part of the story. Europe is looking at importing diesel from Mexico for the first time in seven years as regional supplies remain tight and Russia considers extending its diesel export ban. U.S. distillate inventories have also fallen to a seasonal low of 103.4 million barrels.

The latest EIA data reinforces that concern. For the week ending August 21, U.S. crude inventories increased by just 0.1 million barrels, while gasoline inventories declined by 2.5 million barrels and distillate stocks fell by 2.2 million barrels. Crude inventories are about 1% above the five-year average for this time of year, but gasoline stocks are roughly 6% below average, and distillate inventories are about 14% below average.

Improving crude flows through Hormuz and weaker Chinese demand are providing some relief, while military risks, shipping disruptions, and unusually tight diesel inventories continue to support uncertainty. That combination helps explain why crude prices can move sharply during a session even when the overall direction of the market remains less clear.