Beware the Ides of March

Nearly twenty-two centuries ago, Julius Caesar discovered, to his great dismay, that many he counted as friends were all too willing to stab him in the back. Beware the Ides of March, Caesar became the most famous unheeded warning of all time.

Fast forward to 2006, and we have an important event coming up, also in March an energy event. And its implications for oil prices are downright historic.

Im talking about March 20, the day Iran opens a new bourse designed to trade oil and gas in euros … and to make Iranian crude a global oil benchmark alongside West Texas Intermediate and Brent.

Some people say we shouldnt worry about the new bourse that it will be illiquid … and that Irans share of the global oil supply is small. They say Its in Iran, stupid. Who wants to go there?

My response: They might want to learn a lesson or two from Julius Caesar.

Why Should We Worry about
The New Iranian Oil Bourse?

For three reasons:

Reason #1
Even if their market is illiquid at first,
that could change quickly.

When energy futures first began trading in New York, the laughter of the skeptics was louder than the shouting of the traders.

Ditto for single stock futures. They were thinly traded at the get-go, but now OneChicago is doing pretty well.

Closer to Iran, the Dubai Gold and Commodities Exchange (DGCX) just opened up on November 22, 2005. And already its gold trading is bustling.

International traders like having more than one market. If Irans oil is truly priced independently then there will almost certainly be arbitrage between the Iranian and New York exchanges.

Sure, major Western institutions probably wont take the risk of trading in Iran … at first. But think of who else might buy oil on the bourse: China, for one.

And China doesnt want just oil. It also wants Iranian natural gas desperately. The China Daily recently reported that a shortage of natural gas has put the bulk of China’s gas-fired power plants on the verge of closure.

China may not use a lot of natural gas right now, but in the next five years, the amount of power it generates using natural gas should triple … and then double in the decade after that. In time, China will buy all the gas Iran has to sell, and if that means trading in Tehran, it will trade in Tehran.

Then theres India. India recently reaffirmed a deal with Iran to build a gas pipeline through Pakistan, and it gives every indication of wanting to make more energy deals.

China and India are the worlds two fastest growing economies. I think that makes for plenty of business on the buy side. That, and time, will help build trust in the legitimacy of the Iranian oil bourse.

As for the sell side, well, lets see. Who have we not ticked off in the Arab and Muslim world lately? Not many!

Iran? The United Arab Emirates? Sudan? Iraq? Hmm. There are a lot of people in those four countries who are madder than heck right now. Even our BestFriends4Ever in Saudi Arabia gave us the hairy eyeball when President Bush talked about easing the U.S. dependence on imported oil in his addicted to oil State of the Union speech.

What if Saudi Arabia decides its in its best interests to sell some of its oil on the Iranian exchange, perhaps as a peace offering to Tehran?
Et tu, Saudi!

What next?

Consider this: If China starts to buy oil on the Iranian bourse, it will want more euros. That could be the push China needs to meaningfully revalue its currency against the dollar, perhaps pricing the yuan against a basket of currencies that includes a lot more euros. As a result, theyll need fewer U.S. dollars. One more push to set the greenback on a slippery slope!

Reason #2
Iran will find that technical
expertise is easy to buy.

Sure, you need technical expertise to make an oil exchange work efficiently. But the Iranians can always hire in those experts. Nearby India, for example, has plenty of tech-savvy talent who would likely jump at the chance to make the Iranian oil bourse tick like a fine watch. And we already know India is eager to make deals with Iran.

Reason #3
Irans share of the global oil market
may not be huge. But its big enough.

Iran produces a little over 4 million barrels of oil per day about 5% of global supply and uses some of that at home. Still, keep these salient factors in mind:

The entire excess global capacity for oil is only about a million barrels a day, or a little over 1% of total global production. So anyone who controls 5% of the total (like Iran) has market leverage.
According to the Energy Information Administration (EIA), with sufficient investment, Iran could pump about 6 million bpd, which would raise its oil exports to about 4.5 million bpd. You know who wants to invest the money to make this happen, of course: China!
And if Iran persuades other Persian Gulf producers to sell on their bourse, this becomes a non-issue.

To these three factors, we can also add the saber-rattling between the U.S. and Iran over Irans nuclear ambitions.

Right now, Russia seems to have defused the crisis by offering to let Iran share in uranium thats enriched on Russian soil, with safeguards to ensure Iran will only use it strictly for nuclear power (not bombs). So the world is breathing a temporary sigh of relief.

Problem: The details still have to be worked out, and even after its inked, the United Nations could reject the entire concept unless Iran restores its nuclear research moratorium, with guarantees. The situation is far too fluid to predict the outcome.

Bottom line: Its too early to know for sure if the Iranian oil bourse will succeed or fail. No matter what, investors had better pay close attention to its impact on oil markets. And if the U.S. dollars status as the currency for the global oil trade is eroded, the long knives will be out for the greenback as well.

The Iranian Oil Bourse Is One
More Straw on the Camels Back

The launch of the new oil bourse isnt happening in a vacuum.

Iraq seems to be spiraling into religious civil war. Neighboring countries, including Saudi Arabia, could be dragged into the fray. And while the recent terrorist attack on a Saudi oil facility failed, remember, the first terrorist attack on the World Trade Center (using a truck bomb in 1993) also failed.

Thank goodness al Qaeda often seems like the gang that couldnt shoot straight. But unfortunately, these cretins learn from their mistakes and theyre willing to try, try again.

Further afield, the rebels in Nigeria who have shut down one-fifth of that countrys oil production say they have plenty more targets to blow up.

All in all, the fear factor in oil prices could become mighty big indeed.

Now, on the bearish side, this winter is the mildest in anyones memory. So crude oil and gasoline inventories are well over the five-year average:

The fact that January was 27% warmer than normal was particularly hard on natural gas. Investors Business Daily reported a couple weeks ago that natural gas storage was so full we might get to a no bid situation.

But hold that thought and set it aside. Because now were seeing cold temperatures across the upper Midwest and Northeast. It probably wont last for long, but it could last long enough to reduce the overstock and cause whiplash in the natural gas markets.

And here are some other forces that could drive natural gas prices higher:

Natural gas-intensive industrial output is expected to grow 3.1% this year and 2.2% next year, according to the EIA.
The EIA also reports that domestic dry natural gas production fell by about 2.7% in 2005, thanks to hurricane-induced carnage in the Gulf of Mexico.
According to the Minerals Management Service, approximately 400 million cubic feet per day (mcf/d) of natural gas production should remain offline prior to the start of the next hurricane season (255,000 barrels per day of oil production in the Gulf of Mexico is also still offline).

In my view, if our warm winter is a precursor to a warm summer, that means a lot more demand on the 17% of U.S. power plants that are natural-gas fueled.

Also, a couple months after Iran launches its oil bourse, we start getting into hurricane season.

If we experience more bad storms in Energy Alley in the Gulf of Mexico, supply could dry up pretty quickly.

Im sure you remember the damage done last time around. It was pretty ugly, including once-towering, now-wrecked oil platforms floating to shore.

And if natural gas facilities get hit or go up in smoke, it can get even uglier.

Will we experience another bad hurricane season? No one can say for sure. But dont forget: The next hurricane season starts in just 92 days.

The director of the National Hurricane Center in Miami puts it this way: There is no reason to expect any change in hurricane patterns in the near future, the number of hurricanes have been increasing since 1995 and will continue to do so for the next decade or two.

Holy Moly!

Hurricanes are further worsened by the La Nia effect, the mean sister to El Nio. And it looks like La Nia is coming this year. According to weather.com, its already busily causing mudslides in California.

Plus, consider this picture from seasonalcharts.com. It shows the average price movements of crude oil by month.

As you can see, crude oil typically bottoms at the end of February/beginning of March, and usually runs higher through September.

In these days of freaky weather and terror attacks, its hard to judge what is a normal year, but it a looks like it might be a good time to buy oil investments … oh, say, NOW!

How to Play the Coming
Surge in Energy Prices

In addition to my other favorites, one fund Im looking at is Guinness Atkinson Global Energy (GAGEX). It was best of its class last year, and it is truly a global energy fund, with top holdings including Sasol, Petrochina, OMV, Royal Dutch Shell, EnCana, Repsol and more.

The fund has an expense ratio of 1.45%. It is up about 6.7% so far this year and returned a stunning 64% last year way ahead of the industry average of 38%.

It has no load, but charges a 1% fee if you redeem it in the first 30 days.

Another solid choice is Oil Service HOLDRs (OIH), the leading exchange-traded fund which tracks the oil services industry.

Its come back down a bit, even penetrating its near-term trend line. But it still has very strong medium- and long-term support.

Last year, it returned 43.7% not too shabby. And oil services could easily outperform going forward as the quest for new supplies of oil kicks into overdrive.

Sure, both these funds have had a big run. But look at it this way: The market capitalization of the energy sector (as a percent of the entire S&P 500) is just about 11%. In contrast, during the last energy boom, in 1980, energy was a whopping 28% of the market cap of the S&P 500. So from a historical view, this profit party could just be starting.

Now for the really good news. My friend and colleague Larry Edelson shows how the best trading vehicles to crank up your leverage are the LEAPS on undervalued oil shares. And he has just picked out a new trifecta of trades for his Energy Options Alert service. While they strictly limit your risk to the amount you invest, they give you up to 10-for-1 (or better) profit potential.

Larry is chomping at the bit to put these trades on. So, the deadline for joining in time to get these LEAPS recommendations is tonight at midnight. If youre interested, call 877-719-3477.

Good luck and good trades,

Sean Brodrick

About MONEY AND MARKETS

MONEY AND MARKETS (MAM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Larry Edelson, Tony Sagami and other contributors. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MAM. Nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MAM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we do not track the actual prices investors pay or receive. Contributors include Marie Albin, John Burke, Beth Cain, Amber Dakar, Michael Larson, Monica Lewman-Garcia, Julie Trudeau and others.

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