How Middle Eastern Tensions May Blow Up Commodities
Over the last 24 hours, tensions between the Iranian republic and Israel have become more pronounced. As Iran fears a United States-backed attack by the Israelis, the nation has decided to start pursuing rampant military drills in order to prepare itself for the worst.
Its most recent drill took place in the Straits of Hormuz, a strategically significant waterway bordering southern Iran. It is also used to export crude oil and petroleum from the Persian Gulf. It is no surprise that once the Iranian government shut down the waterway that energy futures spiked.
This latest act of self defense by the Iranian government is disturbing on various levels. First, it signifies an increased risk in Middle Eastern violence. Regardless of morals and principles, further violence between the Israelis and Islamic nations could very well drag the United States into further military conflict, in a time when the United States has to do anything it can to cut costs and bolster savings.
While the US has a strategic alliance with Israel, the government should think of its constituents first. Could the government actually afford another global-scale war? It also has to consider that its citizens are highly susceptible to fluctuating gas prices. As already seen today, commodities including crude oil and gasoline have risen over 2%. In the event that a full-scale conflict arises, prices are sure to increase even more.
Supply and demand is what dictates commodity prices, and as the supply faces increased risk to dramatically drop, crude oil and gasoline are likely to sky-rocket. This means, on a basic level, that gas prices will jump. That's not the only thing that will be affected. In a more subtle manner, mass transportation costs will increase and consumer discretionary costs will increase as companies have to pay more for fuel and consequently transportation of goods.
Iran is unlikely to keep the Straits of Hormuz shut down for a long time, so investors will undoubtedly see lowering energy prices as tensions ease up. However, they always have to consider a long-term view. If military action proceeds, commodities will increase dramatically and could severely compromise millions of Americans' abilities to live comfortably.
Investors always have to keep up with the news. While the Straits of Hormuz do not directly affect the economy, it definitely made its mark on commodities, which in turn affect the rest of the economy. Crude oil is one particular commodity that affects almost every person on a consistent basis, so traders have to keep in mind that any possible news that affects the supply and demand of crude oil will move markets. As such, traders should keep up with real-time news and be able to act quickly when new developments occur.
Traders who believe that Middle Eastern tensions will increase might want to consider the following trades:
- Long crude oil or RBOB gasoline futures, as fears that supply will diminish will pump up the stock price.
- Short companies that extensively use gasoline, such as airliners or transportation companies. This should be a longer-term trade, as it will take a while for rising fuel costs to take a toll on these companies.
- Long precious metals, as traders may fear global instability if Middle East peace is not preserved. They may flock to safe havens like gold or silver.
Traders who believe that the Middle East will remain peaceful may consider an alternate position:
- Short an ETF that tracks crude oil or natural gas, such as the US Oil Fund (NYSE: USO) or the US Natural Gas Fund (NYSE: UNG). You may want to stick with ETFs because this would be a longer term trade and the ETFs will be less volatile than the corresponding commodity futures.
- If news came out that Israel agreed to maintain peace with Iran or other nations, long the equity markets, via ETFs or equity futures. This would be a short-term trade, however.
- Miners and oil harvesters such as Transocean (NYSE: RIG) or BP (NYSE: BP) will likely be volatile, and could go up or down sharply depending on the news that's released. You could purchase straddles to take advantage of these companies' volatility.
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