Syria and the Oil Trade

 | Aug 29, 2013 | 10:52 AM EDT
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The phone has been ringing off the hook in the last week of a languid summer. It's CNBC, Fox and even Al Jazeera, all looking for insight from me into how the Syria mess is going to affect oil prices.

What, I'm going to go on TV and give them something better than I'm going to give my faithful? Not a chance. Here's the absolute skinny on what's going on in Syria, what I think is going to go on in Syria, and how -- exactly -- to trade it.

First and foremost is that the oil market is not traded in a vacuum where the fundamental inputs of oil supply are going to be the only things you want to measure. For weeks, since before the Syria situation, I have continued to tell you that all the risks to oil remain on the upside. Part of the reason is the action in the rest of the capital markets.

The stock market looks as though every rally needs to be sold, the bond market is in panic mode with Fed tapering talk, and gold hasn't had its normal stellar year, even though right now it looks like a buy. If you're a manager looking for a diversifying hard asset, you've got little choice but to look at oil, and the potential of a U.S.-Syria conflict potential is fanning an already roaring fire.

No matter what happens in Syria, as long as those conditions in the other capital market remain as I've laid them out, you still risk more on the upside in oil prices than on the downside, even with Brent threatening $120 a barrel.

As for Syria, we have certain fundamentals and a well-known outline in Libya that we can draw on. Like Libya, Syria is a mostly insignificant supply source in the world crude market, producing slightly over 300,000 barrels a day, or less than 0.4% of the global supply. Syrian oil fields are mostly congregated in the eastern and southern areas, nearer the Iraqi border and far away from the current fighting and far away from the likely strike zones that the U.S. might engage in with Syria to try and create what Sen. John McCain calls a "free zone area." Just as in Libya, these oil-production areas are very unlikely to sustain damage, even from rebel force sabotage. As in Libya, there is little real supply risk.

Most of the professed oil panic from Syria is related to what I'll call "contagion risk," the possibility that fighting might spread into more delicate oil areas, particularly Iraq and even Turkey to the north. Again, this type of similar contagion risk was a good part of the reason for the lofty rally in oil prices during the Libyan crisis, and again, this was neither a likely outcome nor did it come to pass.

So, since so few fundamental forces are legitimately pushing prices higher, what is floating oil to such high levels, and how should one play the move?

I am convinced that just as the oil action and likely military action have so closely mirrored the situation in Libya (which has about 1 million barrels a day of output), the traders have convinced themselves to trade Syria in precisely the same way as Libya, buying up oil until the first several days of U.S. strikes, and then finding a way out of the trades quickly long before the tyrant (Khadafy in Libya, Assad in Syria) falls.

My positions in oil right now reflect this, but I do not recommend entering the trade at this moment, even if I believe that Brent prices are well on their way above $120 a barrel. Instead, one instant way to play Syria in the short term would be to circle back to mid-con refining names (CVR Energy (CVI), HollyFrontier (HFC), Western Refining (WNR)) and take advantage of an increasing Brent to West Texas spread. This will truly be a fast trade idea, though; as I believe that these spreads have been only temporarily bloated by Syria.

And with these trades, as with oil itself, get out fairly quickly after the first cruise missiles land.



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