In a previous article, I wrote that you shouldn't worry about Syria. But the facts have changed -- along with my mind. In an announcement that stunned even administration insiders, President Obama declared that he would not take action against Syria until Congress votes on it. If that doesn't ultimately kill any punitive action against Syria, it certainly dilutes the impact: a red line is only a red line if the U.S. Congress agrees that it is.
There has been a guessing game about the dramatic shift from John Kerry's strongly worded statements just days earlier, to the President tossing the project into Congress' lap. Some say it was because of all the reruns of Biden's Bush-era speech in which he avers that a President who undertakes such an effort without congressional approval should be impeached. Others say the administration was chastened by David Cameron's failure to win support in the British parliament.
As an optimist, I'm hoping the President made this announcement because he is close to a deal with Russia, where he offers them some concessions and they put pressure on Syria to dismantle its chemical arsenal. This is not as far-fetched as you might think. Russia has already shown they can direct Syria about where to site the chemical weapons. And the timing of the President's visit to Russia is most interesting. If a deal like this does happen, hold your oil Puts tight and ignore the rest of this article. Oil is going to $80.
Barring this scenario, the President's latest move has profound and far-reaching consequences for the Middle East and beyond. In the short run, perceived risk is greatly reduced. We will see the fear premium drain out of oil. It has already dropped $5 from its recent highs. if Congress votes against military action. I would not be surprised to see WTI drop well below $100 in a panic sell-off.
This Really Is a Dramatic Break from the Past
Years ago I had the privilege of working for George Ball, the only foreign policy strategist in the Kennedy and Johnson administrations to oppose U.S. involvement in Vietnam. For both presidents, Ball predicted with amazing accuracy and detail how the involvement would work out. Both presidents dismissed his arguments out of hand. Kennedy famously laughed at him: "Well, George, you're supposed to be one of the smartest guys in town, but you're crazier than hell." As Ball told me decades later, it was all about U.S. credibility for those two presidents. It was OK to undertake exploits, even if they were risky or ill-advised, when U.S. credibility was at stake. It is a philosophy that presidents since then have mostly followed.
With its recent announcement, the Obama administration has taken a dramatic step in the opposite direction, essentially declaring: "we're not going to do something risky and ill-advised just to maintain our credibility." The effects of this marked break from the past will have more profound effects than most investors expect.
Both our allies and our enemies around the region are already beginning to wonder: if U.S. "red lines" can either be abandoned or left to the whim of Congress, are they meaningful anymore? The U.S. drew a red line about Iranian nuclear weapons too. Does that count anymore? Thus, the chances of Iran pursuing its nuclear program have increased, as have the chances of Israel unilaterally attacking Iran. As one Israeli Minister wrote: "The international stuttering and hesitancy on a Syria strike just proves once more that Israel cannot count on anyone but itself." The Iranian situation is just the beginning. Other crises will also loom larger now.
The initial effect of the President's move will be to depress oil prices. There will be lots of euphoria about the removal of an immediate threat to supply. However, the long-term effect is likely to be the precise opposite as diminished U.S. influence in the Middle East increases the likelihood of oil-supply threatening conflict.
The "Big One"
For investors in oil and oil stocks, Saudi Arabia is still the country to keep your eye on. In a previous article, I detailed the risk: for the first time in 100 years, the Saud dynasty faces an inter-generational succession. The last two such successions ended in disaster. Saudi Arabia produces roughly ten million barrels a day -- more than 10% of global production. If a succession crisis took that production off-line, we could see prices spike above $200 a barrel.
The Saudi succession risk is real and imminent. King Abdullah's health is very poor and there are only a handful of princes of the current generation left, with an average age of 77. There are a number of forces ready to take advantage of a succession crisis: factions within the Saud family; Shi'a separatists, and of course, extremists of the al-Qa'ida ilk. One factor that restrains these forces is the prospect of immediate and decisive intervention by the United States. The recent change by the Obama administration has called that prospect into doubt.
Summary and Investment Strategy
For now, I'm holding my Oil Futures Puts, which are doing very nicely. Investors who read my previous article may own United States Oil (NYSEARCA:USO), 2X leveraged ETF (NYSEARCA:UCO), or Ipath (NYSEARCA:OIL) puts which have enjoyed similar gains. If Congress votes down military action, I'll use that as an opportunity take profits, hopefully selling the Puts when WTI oil is in the low 90s. Any decline to that level is ultimately a long-term buying opportunity for oil.
The chances of a crisis from Iran's nuclear program or the Saudi succession in the next two to three years are now greatly elevated. Oil futures are still in steep backwardation. I will use this to my advantage by buying 2015-16 futures.
The prospect of a huge spike in oil price to $200 or higher does not favor the large integrated oil companies such as Conoco Phillips (NYSE:COP), Exxon (NYSE:XOM), and Chevron (NYSE:CVX). During his first campaign, President Obama raised the prospect of a "windfall profits" tax if oil remained at elevated prices. To date, both the Carter windfall profits tax and proposed taxes (HR 1500, HR 2372, HR 5800, HR 6000, S.1238, S.2761, S.2782, S.2991, and S.3044) have specifically targeted these companies. Moreover, these companies tend to realize lower margins on their downstream businesses when oil price get very high.
For now, I favor smaller U.S. and Canadian E&P companies. Some of these, like Eagle Energy Trust (ENYTF.PK) pay substantial dividends. As more speculative plays, I also like small international companies that can benefit from high Brent prices, for example Mart Resources (OTCPK:MAUXF) and Pacific Rubiales (OTCPK:PEGFF).
Disclosure: I am long OTCPK:MAUXF, ENYTF.PK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am long Oil Futures Puts. My goal in this article is to discuss the effect of politics on oil and general investing, not politics itself. I am not advocating any political viewpoint. If you think you perceive one in this article, it is unintentional.