Key insights
- Geopolitical tensions in the Middle East, particularly concerning the Strait of Hormuz, could drive Brent crude prices to $120, according to Citi analysts. This potential supply shock could lead to global commodity inflation, benefiting energy and agriculture commodities. The energy sector, as indicated by XLE, has already seen a rebound. While gold hasn't reacted as a hedge, energy commodities are suggested as a hedge against a potential oil crisis. This scenario presents a bullish outlook for energy stocks and commodity-linked assets.
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Don't count out the oil trade just yet.
Crude prices hit the skids to start this week as President Donald Trump paused military strikes against the Iranian energy complex. But Brent crude futures are bouncing after Monday's sell-off, up almost 4% so far today to a recent $103 per barrel, while West Texas Intermediate futures, the U.S. benchmark, recently traded around $92. Energy stocks have rebounded too, up about 2% as indicated by the State Street Energy Select Sector SPDR ETF (XLE). (Read Investopedia's full coverage of today's trading here.)
Some commodities experts say cheap oil seems unlikely in the near future. Citi commodity research analysts led by Max Layton said Brent prices will likely go higher over the coming days to at least $120 per barrel, because a "wildcard"—the Strait of Hormuz's de facto closure—has become a "reality."
Gold hasn't so far been the hedge for geopolitical uncertainty in a way that many investors thought it was, but buying near-term energy and agriculture commodities futures could be a useful hedge against a sustained global oil crisis, according to Citi's commodity research team.
From a portfolio allocation perspective, the bank's team said, "it's not too late" to hedge risks to global commodity inflation, with a benchmark index for those assets only up a touch since the conflict in Iran began in late February.
This Middle East conflict, the longer it goes, could lead to a global supply shock in crude that rivals the 1970s crisis, according to Citi. For reference, oil prices then quadrupled, causing severe inflation. Solving the current issue will require either military or diplomatic action, which could happen by mid-to-late April, Layton and his team wrote in a report published Monday.
Citi's base case—on which they place a 30% probability—is Brent crude rising to at least $120 per barrel in the coming months, indicating upside of around 15% from recent prices. If the energy supply disruption continue through the end of June, prices could reach $200 per barrel, they said.
Their bear case for oil, which they believe has a 20% likelihood of occurring, would put oil prices back to around $65 or $70 by the end of the year. But that would appear improbable because, they said, it would require a speedy deal between Iran and the U.S. "via leadership change or leadership attitude change" and a reopening of the Strait.
Investors who don't yet have hedges in place to address the risk of global commodity inflation may want to consider them, according to Citi. The Bloomberg Commodity Total Return Index is up about 10% since the beginning of the Iran conflict, and Citi believes energy and agricultural commodities can remain useful hedges against a "prolonged disruption" to flows from the Strait of Hormuz and other regional energy infrastructure.