Regular readers will know that I can be a little contrarian at times. That is not necessarily the result of being curmudgeonly, although if you ask my kids I’m sure they would say that I am a grumpy old man. No, it is rather because my experience has taught me a couple of things about how the market reacts to what Donald Rumsfeld once called “known unknowns”, things that the market knows will happen but is unsure of what the effects will be. As those things approach, the crowd-sourcing nature of markets ensure that conventional wisdom is priced in, and the power of momentum means that the move is often overdone. That can sometimes set up a trade with a controlled or minimal downside and, on the off chance that conventional wisdom is wrong, significant upside potential.
There is just such an opportunity right now in several oil stocks, and my choice for trading the situation would be the French oil company Total S.A. (TOT), whose one-year chart is above.
The known unknown here is the market’s concerns about the effects of the U.S. sanctions on Iranian oil that were announced after President Trump pulled out of the nuclear deal between that country and the international coalition of signatories. We know that Iran is a significant oil producer and that the proposal to not just prevent U.S. companies from doing business there but also punish foreign companies that do presents a potential issue for a company like Total.
To be sure, Total is not the only oil multinational with exposure to Iran, but historically it has been one of the companies most involved in that market. As a result, while the issue has weighed on several stocks, TOT has been hit harder than most and is underperforming the broad energy ETF XLE over the last few months. That underperformance has taken it to a level that sets up nicely for a trade.
As you can see from the chart above, the latest drop has taken TOT to just above what looks like a significant support level. The stock has bounced off a level just above $58 three times in the last three and a half months, making that somewhere that buyers can be expected, and setting up a logical, close point off which to set a stop-loss order. Such an order at around $57 would limit potential losses to around five percent, while a bounce back to the highs would represent a nearly ten percent profit.
Of course, for that to happen the stock has to bounce, but that looks likely when you consider the fundamental factors that have been weighing on it. As this article on oilprice.com makes clear, Total have already said that due to their dependence on U.S. financial markets, they intend to pull out of Iran rather than risk sanctions. The point is that that is known, and the effects are both quantifiable and, at this point, priced into the stock. That limits the future downside and would make even an “as expected” outcome a positive in the short term. The other potential negative is the price of oil, but there too we are approaching a significant support around $65. Oil has been essentially range-trading for a while, so a bounce can reasonably be expected.
This is, of course, a trade, so there is risk involved. As the imposition of restrictions and sanctions continue the selling of anything associated with Iranian oil could continue way past its logical endpoint, or further signs of cracks in the price supporting agreement between OPEC and others could force oil lower, or any one of a number of other things could go wrong. That though is what stop losses are for, and the risk/reward ratio of buying TOT here still makes sense.