How to Trade an Iranian Oil Crisis

 | Jan 09, 2012 | 2:00 PM EST
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Rhetoric and worry have surrounded Iran for the past week while the price of oil continues to rise. Though reports over the weekend indicate that new talks with Iran are in the works, it's too soon to minimize these tensions and their effects on world markets. As I recommended before the new year, it's best to remain long oil and oil stocks.

The latest International Atomic Energy Agency report on Iranian nuclear aspirations set the stage for this latest standoff between the West and Iran. In a controversial report last November, the IAEA for the first time wrote about a pattern of nuclear development that suggested military use -- a charge that the West has always suspected but the Iranians have always denied.

In response, the U.S. put together a masterful plan of pressuring Iran back to the negotiating table: Besides strengthening economic sanctions, the U.S. has obtained a European Union pledge to boycott Iranian oil. On Sunday, U.S. Treasury Secretary Tim Geithner headed to Japan and China to obtain Asian support for an Iranian oil export ban -- critically needed support, as more than half of Iranian oil is shipped to China and Japan.

With pressure applied, the Iranian rial has plummeted, and Iran has responded with military threats of closing the Strait of Hormuz, a conduit for almost 25% of global oil supply. The U.S. military, as well as several oil analysts, believes that the Iranians have the capability of closing the Straits, if only temporarily.

The purpose of applying pressures to Iran before restarting negotiations is clear: In two previous arbitrations last year, talks broke down without substantial progress and, in essence, bought time for the Iranians to continue nuclear development. A new site for uranium enrichment is about to open deep underground, near Qom, for example. By proving that the West can virtually stifle Iranian oil exports and shut down the Iranian economy, new negotiations, it is hoped, could logically produce much more substantial results toward ending Iranian nuclear development, a goal of the U.S. State Department.

Still, Iranian rhetoric continues to heat up as Iranian leaders look less likely to bow to the West on atomic aspirations and more likely to deliver a steady diet of U.S. demonization and nationalistic bombast to the population, a successful strategy employed in the past. In other words, this doesn't look like a crisis that's going to cool down any time soon.

The bottom line is that oil risk and oil prices will not moderate quickly and, over the next few weeks, look likely to remain above $100 per barrel if not drift higher. Of course, any substantial military action by the Iranians to close the Strait will have the immediate effect of spiking oil prices by at least $40 a barrel.

This should bode well for high-beta oil exploration & production stocks, most of which have underperformed in 2011 compared to high-dividend mega-cap integrated issues such as Chevron (CVX), Conoco (COP) and Exxon Mobil (XOM). For frequent readers of my column, these recommendations are familiar: Apache (APA), Anadarko (APC) and Hess (HES). Look for growing oil companies dedicated to E&P with known reserves -- that's the formula for big gains in a rising oil market.

The problems in the Middle East are heating up. Now is not the time to be out of oil stocks.



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