Benchmark Brent crude fell more than 5% on Monday to just over 82 US dollars a barrel, its lowest level in more than three months.
US President Donald Trump announced a peace deal with Iran that could see the critical Strait of Hormuz shipping route reopened after months of closure.
The US-Iran agreement is set to be formally signed on Friday, with Trump celebrating the news on his 80th birthday at a sports event held at the White House.
Many details of the deal remain unresolved, and experts warn it will take considerable time before the strait is fully operational again.
The Strait of Hormuz has effectively been closed since the US and Israel began their war on Iran on February 28, with crude prices surging to as much as 120 dollars a barrel at their peak.
A fifth of the world’s oil and gas supplies are normally shipped through the strait, and significant infrastructure damage across the Gulf region will require months of repair work.
European and Asian stock markets jumped higher as investors responded positively, with London’s FTSE 100 rising nearly 100 points at the open before settling around 0.6% higher at 10536.46.
Germany’s Dax and France’s Cac 40 both lifted 1.7%, reflecting broad relief across global markets at the prospect of easing energy supply pressures.
Susannah Streeter, chief investment strategist at the Wealth Club, said: “With energy prices falling back, inflationary pressures should start to ease off.”
Streeter cautioned, however, that “prices are still elevated, with crude some 16% higher compared to just before the war broke out and gas prices still more than 30% higher.”
She added that nervousness persists among investors, noting “we’ve had plenty of false starts to this peace process” and that damage to Gulf facilities “will take many months to repair.”
Richard Hunter, head of markets at Interactive Investor, said the peace deal will help allay some inflationary worries at the Bank of England ahead of its interest rate decision on Thursday.
The Bank of England is widely expected to hold rates at 3.75%, but faces a difficult balancing act between stalling economic growth and persistent inflation.
UK GDP contracted by 0.1% month-on-month in April, a sharp reversal from 0.3% growth recorded in March, adding further complexity to the Bank’s position.
Hunter said: “The weekend developments have come at a good time for central banks, and the subsequent drop in energy prices will ease some of the Bank of England’s inflationary concerns when its latest rate announcement hits the wires on Thursday.”
He added that “with GDP currently flatlining and growth prospects unclear, the inflation part of the equation may at least be of less concern” as the Bank maintains its data-dependent approach.
Oil giants BP (BP.L) and Shell (SHEL.L) led declines on the FTSE 100, each falling around 4%, while defence group BAE Systems (BA.L) slipped 1%.
Engine-maker Rolls-Royce (RR.L) rose 5% on the peace deal news, as markets anticipated reduced pressure on fuel supply chains across the aviation sector.
British Airways owner International Consolidated Airlines (IAG.L) gained 3%, easyJet (EZJ.L) rose 2%, and Wizz Air (WIZZ.L) surged 9% in the FTSE 250 on hopes of a sustained end to jet fuel supply concerns.