European diplomats said they had a preliminary agreement but had yet to decide when an embargo would be put in place. The news sent Brent crude up nearly $2 a barrel.
A senior Iranian official responded that the OPEC member already has alternative outlets available to maintain its 2.3 million barrels per day (bpd) of oil exports, including sending more crude to China, the world's No. 2 consumer.
The tensions stemming from Iran's nuclear ambitions have supported oil prices in recent weeks. Tehran last week threatened to cut off oil flows through the strategic Strait of Hormuz in the event of an oil embargo. About 35 percent of all seaborne oil moves through the strait.
"India, China and some other Asia countries may end up getting a reduced price on Iranian oil and that could be good for their economies, but European countries will have to find other sources," said Gene McGillian, analyst for Tradition Energy in Stamford, Connecticut.
In London, ICE Brent February crude settled at $113.70 a barrel, gaining $1.57 or 1.4 percent, the highest settlement since November 11. In two days, front-month Brent has risen $6.32, or 5.89 percent, the most for two days since October 6.
U.S. February crude settled up 26 cents or 0.25 percent at $103.22 a barrel, highest since May 10. U.S. crude has advanced $4.39 or 4.4 percent in two days, the most for two days since December 21.
Brent's premium against U.S. crude widened to $10.48, after closing at $9.17 on Tuesday.
Brent trading volume shot up 55 percent above its 30-day average while U.S. crude rose 17 percent from its 30-day average, according to Reuters data.
Iran supplies about 450,000 barrels per day to EU member states, making the bloc collectively the second-largest market for Iranian oil after China.
While oil markets braced for a potential supply problem, a U.S. Treasury official said the United States believes Tehran's oil revenues can be choked off through a well-timed, phased-in curtailment of purchases that will not disrupt global oil markets. New U.S. sanctions signed into law on New Year's Eve envision such a phased-in approach, the official said.
SUPPLY RISKS, U.S. INVENTORY DATA
Potential supply disruptions in Africa and central Asia also supported prices.
Nigeria's main trade unions called for a national strike and mass demonstrations to shut down sectors such as oil production starting from Monday, unless the government restores a fuel subsidy it scrapped at the start of the week.
In Kazakhstan, President Nursultan Nazarbayev extended until January 31 a state of emergency in the western oil city of Zhanaozen, where at least 16 people were killed last month.
In the United States, traders were awaiting the weekly inventory report from the industry group American Petroleum Institute scheduled after the close of oil markets.
An expanded Reuters poll of analysts forecast that crude stocks fell 200,000 barrels in the week to December 30. Distillate stocks rose 800,000 barrels and gasoline stocks gained 1.3 million barrels, the poll also showed.
The U.S. Energy Information Administration will follow with its weekly report on Thursday at 11 a.m. EST (1600 GMT).