Although oil prices have retreated significantly from the highs reached during the peak of the Middle East conflict, volatility and uncertainty are likely to persist until a lasting and comprehensive agreement is reached between Washington and Tehran.
According to CNBC, reports of Iranian attacks on commercial vessels in the Strait of Hormuz pushed oil prices higher on Tuesday morning, underscoring the persistent risks surrounding transit through the strategic waterway and reinforcing concerns that the U.S.-Iran interim agreement remains fragile.
The U.S. benchmark, West Texas Intermediate (WTI) crude, has declined about 27.5% over the past month but has rebounded around 2.7% over the past five trading sessions. A similar trend is evident in Brent crude, which has declined around 25.2% over the past month while gaining roughly 3% over the past five trading sessions.
The recent decline in crude prices has been driven largely by easing geopolitical risk premiums and the resumption of vessel traffic through the Strait of Hormuz. However, the market may be underestimating persistent supply-side risks that could support oil prices. Tightening inventories, coupled with damage to critical Gulf energy infrastructure, could constrain the recovery in oil supplies, keeping supply-demand balances tight and supporting higher crude prices.
A Fragile Diplomatic Truce
The market's reaction to diplomatic developments between Washington and Tehran has been largely headline-driven. Given the fragile nature of the negotiations, any setback in talks or renewed geopolitical tensions could quickly reignite concerns over global energy supplies, pushing oil prices higher.
Against this backdrop, it is increasingly important for investors to closely monitor developments surrounding the diplomatic negotiations. Recent comments from both sides underscore the uncertainty surrounding the talks.
As quoted on a Reuters article, Iran's foreign minister said negotiations on a final agreement would not proceed if U.S. threats persist, after President Donald Trump warned he would "finish the job" unless a deal is reached.
Hormuz Risks Could Support Energy Prices
Even though hostilities have eased, risks to vessels transiting the Strait of Hormuz remain elevated due to recent attacks on commercial ships and the continued threat posed by naval mines. As a result, shipping through the critical waterway is unlikely to return to normal immediately. The prolonged disruption could keep global oil supplies below pre-conflict levels for some time, providing support to crude prices.
Prolonged disruptions are likely to keep shipping costs elevated as carriers contend with logistical hurdles and higher insurance premiums, pushing freight rates higher. The resulting increase in shipping costs may push oil prices higher.
Energy ETFs to Consider
The recent decline in oil prices may offer investors an opportunity to build exposure to energy ETFs at more attractive levels. With WTI crude hovering around $69 per barrel, significantly below its conflict-driven peak, any renewed supply disruptions or resurgence in geopolitical risk premiums could provide upside for the energy sector.
Although crude prices may not revisit the highs reached during the peak of geopolitical tensions, the fundamental backdrop remains constructive. Additionally, persistent supply constraints, relatively tight inventories and continued uncertainty surrounding shipping through critical waterways could keep oil markets supported, leaving room for prices to recover from current levels.
In such a scenario, energy ETFs could be well-positioned to benefit.
Investors can consider State Street Energy Select Sector SPDR ETF XLE, Vanguard Energy ETF VDE, State Street SPDR S&P Oil & Gas Exploration & Production ETF XOP, iShares Global Energy ETF IXC and iShares U.S. Energy ETF IYE.
With an average one-month trading volume of 33.69 million shares, XLE is the most liquid option. The fund also has the largest asset base among its peers, with $35.13 billion in assets under management. Regarding charging annual fees, XLE is the cheapest option, charging 0.08%, suitable for long-term investing.
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This article originally published on Zacks Investment Research (zacks.com).
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
