HardAssetsInvestor

Written by Amine Bouchentouf  |

January 09, 2012

The Commodity Investor: How Conflict With Iran Can Send Oil Prices Above $200

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Any disruption of oil through the Strait of Hormuz could see oil prices go parabolic; for oil equities with no exposure, there could be a hedge.

The headlines are ominous: “Iran Ready to Close Oil Shipping Routes”; “US, Iran Escalate Tensions in Persian Gulf”; “Iran: Closing the Strait of Hormuz Easier than Drinking a Glass of Water.”

A Conflict Of Historical Importance

One of the biggest factors to monitor in the oil markets this year is a potential armed conflict with Iran. Conflict with Iran has been brewing for decades, from the time U.S. and U.K. intelligence agencies coordinated the overthrow of the democratically elected Iranian Prime Minister Mossadegh in 1953 for nationalizing the oil industry, all the way to the Iranian revolution in 1979 that overthrew the shah.

Ever since, conflict with Iran has never been far from the surface, with events such as the first Gulf War, the second Gulf War and the recent withdrawal of American troops from Iraq all involving Iran in some way. Lately, it seems the conflict has taken on a potent turn with the risk of military conflict high on the radar.

The U.S. is pushing for biting sanctions against the Iranian regime, targeting key areas of Iran’s economy, including the industrial sector and financial services. This month, the U.S. went even further by targeting Iran’s central bank and its crucial oil sector. As a result, Iran is threatening to entirely shut down the strategic Strait of Hormuz.

A Strait Of Strategic Importance

The Strait of Hormuz is one of the most important bodies in international trade. The strait, located between the Persian Gulf and the Gulf of Oman, plays a critical role in connecting goods and merchandise in the gulf to the rest of the world. The strait is only about 20 miles wide but may be the most important waterway in seaborne trade.

Approximately 90 percent of Middle Eastern oil transits through the two gulfs on a daily basis, with almost 20 million barrels of oil going through the strait every day. In addition, almost all of the region’s liquefied natural gas is also shipped through the strait. That’s in addition to other important commodities such as aluminum and fertilizers.

It’s difficult to overstate the importance of this narrow body of water to the oil industry and to global commerce. If tensions continue to escalate with Iran, there’s a very real possibility that the strait may be at risk of being partially or entirely shut off. Iran has already indicated its willingness and ability to shut down the strait if it becomes commercially and economically isolated from the rest of the world through sanctions.

During the last week of December 2011, Iran conducted naval exercises in and around the strait, flexing its military muscle and displaying its abilities to disrupt seaborne commerce in the area. Practically speaking, Iran’s options are fairly limited, because a total shutdown of the strait is almost impossible.

The Iranian navy may deploy frigates and corvettes to shoot down commercial tankers (which was a common tactic during the Iran-Iraq War in the 1980s), but this strategy is not sustainable. The U.S. Navy patrols the area very closely through the 5th Fleet located in Bahrain, which poses a huge deterrent to any Iranian Navy maneuvers. On the other hand, Iran may layer the strait with mines, which could have a much more serious impact.

What To Do

Paying close attention to what’s happening in the Strait of Hormuz may be one of the most critical factors an oil trader can monitor at the moment. Any sign of disruption of the world’s seaborne oil trade will have a dramatic and sudden rise in prices, which could send prices into the $200 range. If the tension between the U.S. and its allies and Iran and its allies escalates, oil prices may indeed go parabolic. In this scenario, you want to be long oil companies with limited exposure to the Strait of Hormuz. The time frame is difficult to ascertain.

The best way to position yourself for such a situation is to pay close attention to tensions between the U.S. and Iran, and see if that spills over into the Strait of Hormuz.

Anadarko Petroleum (NYSE: APC) is one of the biggest independent oil companies without significant exposure to the Strait of Hormuz. Anadarko has large operations in North America, but also important revenue streams from strategic areas such as Algeria, Brazil and Ghana, which won’t be directly affected by a Strait of Hormuz shutdown.

Disclosure: The author doesn’t have any positions in the stock mentioned.

Amine Bouchentouf is a partner at Parador Capital LLC, an institutional advisory firm focused on commodities and emerging markets. He is the author of the best-selling “Commodities For Dummies,” published by Wiley. Amine is also the founder of Commodities Investors LLC, an advisory firm dedicated to providing insightful information on all things commodities. He can be reached at This e-mail address is being protected from spambots. You need JavaScript enabled to view it. .