Optimistic Expectations for US-Iran Talks Lead to Sharp Drop in Oil Prices, Long-term Supply and Demand Dynamics Remain Uncertain

May 26 news

On Monday, May 25, the international crude oil market experienced sharp volatility, with oil prices plunging more than 7% in a single day—a rare price decline seen recently. Among them, Brent crude oil futures fell by $7.26, representing a price decrease of 7.02%, closing at $96.14 per barrel; U.S. WTI crude oil futures dropped by $6.30, with a price decrease of 6.52%, settling at $90.30 per barrel. The core driver behind this sharp plunge was the market’s optimistic expectation that the U.S. and Iran would reach a peace agreement and that shipping through the Strait of Hormuz would resume. Although both sides have downplayed the likelihood of reaching such an agreement, and there remains a time lag before actual supply resumes, the concentrated unwinding of geopolitical risk premiums has directly triggered a substantial correction in oil prices.

Specifically:

I. Triggering Factors: U.S.-Iran Talks Release Positive Signals, Rapidly Raising Expectations for Peace

The immediate driver behind this sharp drop in oil prices is the breakthrough progress reported in U.S.-Iran negotiations, sparking a surge of optimism in the market over an easing of geopolitical tensions in the Middle East. According to CCTV News, on May 25, Speaker of Iran’s Islamic Consultative Assembly, Ali Larijani, led a delegation to Doha, Qatar, to attend a meeting whose central topic was discussing the possibility of reaching an agreement between the U.S. and Iran to end the conflict. More significantly, the U.S. newspaper The Washington Post reported on May 24 that the U.S. and Iran had already reached consensus on the framework for a memorandum of understanding. Once signed, this agreement would fully restore shipping traffic through the Strait of Hormuz within 30 days. The report quoted anonymous U.S. government officials as saying that the agreement’s framework includes extending the ceasefire for another 60 days, thereby creating conditions for permanent peace talks. During this period, mines in the strait will be cleared and the strait will be reopened.

Meanwhile, U.S. President Trump took to social media, stating that negotiations with Iran are “progressing smoothly.” At the same time, he issued a tough statement: “Either we reach a major agreement, or we’ll return to a state of larger-scale conflict.” This statement further fueled market optimism. Although Iran responded cautiously, declining to confirm details of the agreement, the market had already begun betting on an easing of geopolitical risks, directly triggering a pullback in oil prices.

It’s worth noting that the day happened to coincide with the U.S. Memorial Day holiday, resulting in light market trading. With bulls retreating, even a small number of short sellers could easily gain ground, further intensifying downward pressure on crude oil prices.

II. Core Driving Logic: The Erosion of Geopolitical Risk Premiums, with Market Sentiment Dominating Short-Term Pricing

In the medium to long term, crude oil prices are determined by supply-and-demand fundamentals, but in the short term they are highly susceptible to being driven by geopolitical sentiment. The recent sharp drop is essentially a rapid unwinding of the geopolitical risk premium.

The Strait of Hormuz is a critical chokepoint for global energy transportation, handling about 30% of the world’s seaborne crude oil trade. Previously, due to the ongoing U.S.-Iran conflict, the strait remained closed, causing a global crude oil supply gap exceeding 10 million barrels per day and directly pushing up oil prices by $10–15 per barrel—a so-called “conflict premium.” However, news of progress in U.S.-Iran peace talks has led market participants to anticipate a resumption of shipping through the strait, significantly easing concerns over supply shortages. As a result, the accumulated geopolitical risk premium has begun to dissipate rapidly, forming the core rationale behind the sharp drop in oil prices.

Market analysts believe that although the agreement has not been finalized, the expectation of the resumption of oil transportation through the Strait of Hormuz is clear, leading to a rapid cooling of market risk aversion. Against the backdrop of the current supply and demand situation remaining unchanged, short-term news often triggers intense speculation, pushing prices to fluctuate beyond the fundamentals.

III. Rational Warning: Concerns Remain About Implementation of the Agreement; the Supply Landscape May Shift and Enter a Long-Term Game of Strategic Maneuvering.

Despite the high market optimism, multiple real-world constraints determine that oil prices cannot sustain a continuous unilateral decline, and long-term supply and demand dynamics still hold uncertainties. First, the Strait of Hormuz remains closed, and this round of negotiations also faces detailed bargaining. Trump's statements also suggest the risk of a breakdown in negotiations, leaving the possibility for a reversal in the situation.

Moreover, even if the U.S. and Iran reach an agreement, it will still take several months for shipping through the Strait to resume and for global supply to return to normal. The current crude oil supply gap of over 10 million barrels will not disappear immediately, and the market will continue to draw down its inventories. On the one hand, clearing mines in the Strait and repairing damaged oil and gas facilities will take time; on the other hand, there will be a lag effect in unblocking stranded tankers and in the decline of shipping insurance costs. At present, the market’s core focus remains on actual shipping data. Currently, transportation through the Strait is still constrained, making it difficult to change the short-term tight supply situation. In the medium to long term, market dynamics and recovery trends will persist.

IV. Outlook for the Future Market: Short-term sentiment will drive volatility, while in the medium term, the market will return to being influenced by supply-demand dynamics and geopolitical factors.

Crude oil analysts believe that this sharp drop in oil prices is the result of a combination of short-term geopolitical optimism and sluggish market trading activity, rather than a fundamental reversal in supply and demand fundamentals.

In the short term, oil price movements will be highly dependent on the progress of U.S.-Iran negotiations: if the agreement is signed and implemented smoothly, the geopolitical risk premium will further decline, and oil prices may continue to moderately correct; if the negotiations break down, market risk aversion will quickly resurface, and oil prices are likely to rebound.

In the medium term, oil prices will return to the dual forces of supply and demand fundamentals and geopolitical conflicts. On one hand, global crude oil demand resilience and tight supply provide support; on the other hand, U.S.-Iran relations and the geopolitical situation in the Middle East will continue to disrupt the market, with the stability of shipping in the Strait of Hormuz becoming a key indicator to watch. The market needs to be cautious of excessive volatility driven by short-term sentiment, and should focus on the implementation of agreements, actual shipping data through the strait, and global inventory changes.