Craig Eisele on …..

February 23, 2012

Oil Prices Going Up and Can the Economy Handle the Sticker Price

Filed under: Uncategorized — Mr. Craig @ 9:59 pm

Global oil prices jumped to a nine-month high Tuesday to $106 a barrel after Iran announced it was stopping oil shipments to France and Britain. Iran is responding to heavy pressure from America, Europe and other allies, who want to stop the country’s nuclear power program before the radical regime can build nuclear weapons.

This most recent move by Iran to ban oil exports to the two European countries comes as a direct preemptive response to the European Union’s planned Iran oil embargo set for this summer. The EU has already frozen assets of Iran’s central bank.

In recent weeks, you’ve also probably heard news stories about Iran threatening to shut down the Strait of Hormuz. It hasn’t happened yet, but Iran has indicated it could close the Strait or take other measures should the country feel threatened enough by the Western allies.

But right now you might be wondering: What is the Strait of Hormuz and why does it matter TO YOU?

If Iran tries to block the Strait it could have a huge impact on world oil prices, which would directly impact how much you pay for groceries, gas and electronics — all of which use oil in some way, whether it’s part of the manufacturing or shipping process.

The Strait of Hormuz is a waterway that connects the Persian Gulf to the Arabian Sea. It is the only passage to the open ocean for some of the biggest oil producers in the Middle East

 About 20% of the world’s oil passes through the Strait of Hormuz, including crude oil produced in Saudi Arabia, Iran, and Kuwait. It’s a water way that’s “absolutely critical to the world economy,” according Dr. Daniel Yergin, energy expert and Pulitzer Prize winning author of The Prize and The Quest.

Yergin calls the Strait of Hormuz “the most important chokepoint in the world.”

Because so much of the world’s oil travels through Strait, any disruption to the shipping channel would have a major impact on global crude oil prices, which ultimately determine the price we pay for gas at the pump.

Some analysts estimate the price of oil could go up by 50% within days if there’s a disruption of supply, which would mean much higher prices for us filling our tanks at the gas station — and anything else that requires the use of oil. Crude oil and gas prices have risen sharply since September in large part because of the threat of a disruption in the Strait of Hormuz.

“We’ve seen oil prices just on threats go up $5, $10 a barrel” in a day, Yergin says. “This is Iran’s trump card.”

The average price for regular unleaded gas today is $3.58 up nearly 9% since the beginning of this year, according to AAA.com. That is still slightly lower than the highest record average price of $4.11 set in July 2008. But many analysts are predicting that with the threat from Iran coupled with the warmer weather ahead, the U.S. maybe be headed for $4 or even $5 gas prices.

Whether Iran really can shut down the Strait is a big question. Jan Stuart of Credit Suisse says it would be “suicidal” for the Iranians to even try.

“Closing the Strait of Hormuz — that thing is…30 miles wide,” Stuart says. “You need a gazillion boats to literally close it off. It can’t happen.” (See: $100 Oil Is Here to Stay, but Iran Closing the Strait of Hormuz “Can’t Happen”: Stuart)

Still, Iran’s Navy has recently been conducting military exercises in the area. Some experts say the Iranians are preparing to attack oil tankers in the Strait with missiles and torpedoes from submarines. They might not shut the critical passage down but such attacks would certainly disrupt crude shipments and cause a spike in oil prices.

Whether the Iranians just bluster or actually go on the attack, we’re likely to hear more news about this critical waterway in the days and weeks ahead, and that news will have a direct impact on the global economy and how much you’re paying for products here in the U.S.

Stocks continued their 2012 surge Thursday, with the Dow breaching 12,900 and the S&P 500 hitting its highest level in nine months. The Nasdaq rose to a level not seen since the dot com bubble more than a decade ago.  Commodities also continued their 2012 trend, with a mixed session highlighted by strength in energy and weakness in agricultural commodities.

The recent action — broad strength in stocks, mixed performance in commodities — belies the conventional wisdom that all “risk assets” are moving in tandem.

There is rotation happening within the commodity sector but, broadly speaking, it should be another banner year for hard assets, according to Frank Holmes, CEO and CIO of U.S. Global Investors.

In addition to continued demand from emerging markets and signs of life in the U.S. economy, Holmes notes global central banks have embarked on another easing cycle.

Indeed, Morgan Stanley’s economics team declares “the great monetary easing (part 2), is in full swing,” noting 16 major central banks have eased policy since the fourth quarter, including the U.S. Fed, Bank of Japan, European Central Bank, Bank of England and the central banks of Sweden, China and India.

“In response to a slowing global economy and further downside risks emanating from the possibility of an escalating Eurozone debt crisis, central banks all over the world…have been deploying their arsenal for a while now, and should continue to do so,” Morgan’s team writes. “The result is aggressive monetary easing on a global scale.”

Based partially on this easy money, as well as fear of supply disruptions, more capital expenditures in the U.S. and normal seasonal patterns, Holmes is most bullish on oil and gas right now.

“The wind is at their back now,” he says, suggesting the U.S. economy can handle moderately higher gas prices, which have already risen on average more-than 13 cents per gallon in the past month, according to AAA.

“I think we’ll adapt and adjust” Holmes says, while conceding consumer spending cannot handle a sharp, sustained jump in gas prices.

As far as gold is concerned, Holmes is still to his long-term bullish view, suggesting the trend for gold remains higher based on both the “fear trade” and, what he calls the “love trade.”

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