Option Investor

Trouble Ahead!

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Oil prices rose to nearly $64 on Friday ahead of Monday's problem. The problem is of course Iran. Iran is expected to be referred to the UN Security Council on Monday to answer for two year of stonewalling questions from the IAEA and for resuming their attempts to process uranium. According to the IAEA report Iran is rushing forward in its attempts to produce weapons grade uranium and build nuclear weapons.

The report will be heard by the 35-nation board meeting of the International Atomic Energy Agency will play a significant role in determining the next step for the UN as it tries to force Tehran to stop its weapons program. The board already reported Iran to the Security Council but the council is waiting for the outcome of the IAEA board meeting before taking any action. The Security Council has the power to impose political and economic sanctions on Iran.

The Council was forced to wait for the IAEA meeting by Russia and China, which have vetoes on the Security Council and strong ties to Iran. The secret "Green Salt Project", Iran's attempt to convert uranium into the precursor for weapons grade enrichment was linked to tests of high explosives and designs of a missile re-entry vehicle. Documents obtained from Iranian sources included instructions on how to cast fissile uranium into a spherical core of a warhead. All of these steps are clearly designed to produce a weapon rather than generate electric power.

I think it is obvious to anyone with an open mind that Iran is not looking to generate electric power. Otherwise why would they have turned down a lifetime supply of processed uranium fuel offered by Russia for a paltry $35 million? Why would they risk the world's wrath to attempt private processing at a much higher cost if Russia was willing to give it to them basically for free?

I think it is obvious that Monday's meeting is not going to have a positive outcome. Of course as long as Russia and China are buying huge amounts of oil from Iran it could get complicated. Still Iran will eventually have to answer to the Security Council and the current President of Iran, Mahmoud Ahmadinejad has already warned that he will play the oil card if challenged. Ahmadinejad is a hardliner and has said the implementations of any sanctions will result in Iran holding its oil off the market to punish the rest of the world. They also have plans and the capability to close the Straits of Hormuz at any time and stop the flow of oil from other nations as well. Ahmadinejad has already stated that Israel has no right to exist and should be destroyed. This should give you some idea of what is ahead. Iran already has conventional missiles capable of hitting oil and gas fields across the Persian Gulf region as well as Turkey and Israel. Iran just bought 18 mobile ballistic missiles from North Korea with a 2500-mile range. They also have 12 cruise missiles with a 3,000 mile range capable of striking as far away as Germany. Any first strike on Iran would leave them fully capable of lashing out at targets of opportunity up to 3000 miles away in an effort to cause as much global grief as possible.

The next chapter in this play could come from Venezuela. Chavez has already said he would support Iran in kind if Iran is pushed to act. Essentially Chavez said he would cut off oil shipments if Iran cuts off shipments. Since Iran is not expected to stop oil it is likely to be a symbolic measure. If they cut shipments by say 2 mbpd then Venezuela has said he will cut by 2 mbpd. Iran does not ship to the US but Venezuela does. Neither country can stand a prolonged slowdown since both depend on their oil to survive. BUT, they can restrict oil export to some degree knowing they will reap the financial rewards of higher prices on the remaining oil they do export. Say oil went to $85 a bbl they would receive that $85 on their remaining oil to offset lost revenue on their restricted oil. Since Chavez can't pump at full quota they would benefit from any price hike more than those already pumping at full quota. It is a win-win for Chavez and that makes him as dangerous as Iran only without intercontinental missiles.

That brings us back to our energy positions. Needless to say if you are not in them already the odds are slim we are going to get another strong dip unless the UN declines to pursue Iran. While that is a very remote possibility it is a possibility as long as Russia and China are friends of Iran.

We were triggered on the OIH holders last week and the Canadian National Railway split play. I also added a new split play on Talisman, which announced a 3:1 split last week. Most of the other watch list entries are well above the wished for entry points so I don't expect any new positions soon.

With oil prices at $64 we are right at short-term resistance but any negative news could easily push it to $70 again. The bad news here is that our short calls we sold on Feb-21st in anticipation of a stagnant period ahead of the summer rally are now in danger of being taken out. Trading in the oil patch is never dull.

Stop losses, where applicable, will be left VERY loose due to the potential for oil volatility. If the stops are too wide for your risk profile please adjust them accordingly.

Natural Gas Chart - 30 min

Crude Oil futures Chart - 60 min


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