Stalled Iran Talks a Bullish Sign for Brent Crude Producers

The interim nuclear deal with Iran is scheduled to end on July 20. With a deal unlikely, more threats to limit Iranian crude exports are likely, adding upward pressure to the Brent spot price.

Jason Ditz
Jason Ditz
Jul 6, 2014 at 10:52AM
Energy, Materials, and Utilities

The six-month interim nuclear deal with Iran is scheduled to expire on July 20. Ongoing talks on a final nuclear settlement are stalling, with both sides far apart and sticking to their respective demands.

Talks are unlikely to end with this "deadline," but Western nations are likely to try to impose new sanctions on Iran's crude oil exports in an attempt to coerce Iran into more favorable settlements.

What happens without Iran's oil
Between Syria, Libya, and Iraq, there's already a lot of oil supply off-line in the region, and while that may somewhat temper calls for massive new sanctions on Iran, even smaller cuts could have a big impact. The inevitable threats for more sanctions on top of that will have an upward impact on Brent crude prices, even if the threats are largely empty.

In the long run, I believe a final nuclear deal with Iran is possible, and even likely. Still, decades of sanctions have crippled the nation's oil industry, so even if a deal reached a year or two down the road ends the sanctions, there is a long road to getting Iran back to the huge producer it can be. The near and medium-term pressure is all on the downside for Iranian production, and Brent crude is the most vulnerable to that. 

Investing in Brent: A quick primer
There are a lot of ways to invest in Brent crude. The simplest way is the United States Brent Oil Fund (NYSEMKT:BNO), which has done a very good job of tracking Brent performance on the market. That said, tracking Brent crude with an unleveraged ETF means very limited upside. The better way to get exposure to Brent crude is through investing in major producers.

The top producers for Brent North Sea Crude are Royal Dutch Shell (NYSE:RDS-A) and Norway's Statoil ASA (NYSE:EQNR). Both would see big earnings growth if the spot price rises, and pay nice dividends on top of that.

Another option worth considering is Russia's OAO Lukoil (NASDAQOTH:LUKOY), a major producer with a lot of capacity in very safe, stable regions. Despite recent EU tensions with Russia, the reality is that Lukoil is one of the few places Europe can readily look for increased supplies.

Production by the numbers
Statoil and Royal Dutch Shell are both sensibly priced, at 1.61 and 1.44 times book value, respectively. Lukoil is trading much cheaper, at only 0.56 times book. Shell has the advantage on dividends, paying a tidy 4.7%. Statoil is no slouch either at a yield 3.6%, and while Lukoil's dividends are irregular, its most recent payment was 2.4%. 

Shell is the priciest by far on an earnings basis, trading at 20.56 times trailing earnings. Lukoil is trading at only 6.74 times earnings, while Statoil is sandwiched in the middle at 10.30.

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Bottom line
With growing civil wars in Libya, Syria and Iraq, Europe will continue to face energy supply problems. That's nothing but good for Brent prices, and means big profits for the producers.

Though Lukoil is the cheapest of the three producers covered here on an earnings and book value basis, tensions between Russia and the EU are likely to continue to scare off investors, meaning that while the company can be had for a song, its discount is likely to remain.

Royal Dutch Shell pays the best dividend of the bunch, which is surely worth considering. On the other hand, though the company has a lot of Brent specification production, it also has a lot of production elsewhere in the world, not always in the safest regions.

Statoil stands out in this regard, as a huge producer on the Norwegian Continental Shelf. The price remains a bargain at just over 10 times earnings, and the 3.6% dividend yield is one of the safest around. It is an extremely well run company whose oil interests center around the stablest oil-producing regions on the planet, and in a time of global instability, it is an investment in safe, steady production.