Hedging Against Cheaper Oil

Maria asked, “Do you think the price of oil is about to spike higher because Israel and the U.S. will soon attack Iran to stop it from making a nuclear bomb? If so, do you recommend that I buy oil company stocks, or an oil ETF?”

No to the first question and, thus, no to the second.

In fact, just yesterday, Kelly Letter subscribers and I doubled down on a remaining half-position in an oil price hedge. I sent a confirmation note to subscribers last night. The following text is from that note.

I’m confident that we’ll be able to close [our hedge] at a profit. It traded at a price above our cost basis just last week, and substantially higher within the last month.

The reason oil prices have risen recently, and [our hedge] has therefore fallen, is that Europe’s handling of the Greek sovereign debt crisis so far has calmed currency markets, which strengthened the euro against the dollar, making the dollar relatively weak. Because oil is priced in dollars, a weaker dollar means higher oil prices.

There’s also a lingering concern that the US and Israel may mount an attack on Iran to prevent that country from building a nuclear weapon. Any military action in oil country would spike the price of oil. Geopolitical events are hard to forecast, however. You may recall that Iran’s nuclear ambition has been a concern of oil traders for more than a year now. A strike was supposedly imminent last August, but never happened. Now, it’s supposedly imminent again, but who knows?

What we do know is that oil is trading at the high end of its recent range, against a backdrop of a still-sluggish global economy. The US Energy Information Administration (EIA) reported in its weekly snapshot that US crude and gasoline stocks are rising. Demand is low.

Eyes on oil.

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