Will Crude Be Hit by a Big Baghdad Bounce?

"This region is about to explode."

Have you heard that prediction of late? If so, can you recall the precise region and the specific circumstances to which the speaker was referring?

If you can't, don't feel badly. Most of our media outlets have been totally focused on political conventions, scathing comments made by candidates about one another, and such other items as strikes by school teachers.

Iraq's underreported fisticuffs
So, let's remove the mystery about the statement: It was uttered just last week by Sen. Lindsey Graham, R-S.C., while in Iraq, a country that's become chaotic on several fronts. In addition to battling with the likes of ExxonMobil (NYS: XOM) and Total (NYS: TOT) over the companies' desire to sign on for better deals with autonomous Kurdistan in the country's north, the coalition government of Prime Minister Nouri al-Maliki is engaged in serious sectarian squabbling of the usual Shiite versus Sunni variety.

Concurrently, Iraq is figuratively thumbing its nose at the U.S. regarding the likelihood that it has opened its airspace to Iranian aircraft ferrying goodness knows what to shore up Bashar al-Assad's bloody battles in Syria. Astoundingly, it may even be contributing its own Shiite militia to the Assad effort. But again -- this may just be the erstwhile journalism professor coming out in me -- since Iraq essentially has ceased to exist for the U.S. media since the last of our own troops left the country at the close of last year, all this may be new, or largely unfamiliar, to you.

The difficulty is that, should Graham's predicted explosion materialize, a vast amount of the world's daily oil output would be endangered. We'll talk about that in a minute, but in the meantime, think of stratospheric crude prices as but one of many consequences.

Big oil's Baghdad battles
In the oil production arena, one of the key elements that has led to a significant eruption has been the intense hatred shared by Malaki and Kurdistan's President Masoud Barzani. Add to that the one-sided contracts the world's big companies were forced into in order to work on restoring wells and getting their feet in the door in the oil-rich country beginning in 2009. For instance, rather than typical production-sharing agreements, Exxon and its partners settled for just $1.90 for each incremental barrel once the West Qurna 1 field had resumed its prior production.

From a production perspective, the help has been immensely successful. In July, Iraqi production inched over 3 million barrels a day, pushing it ahead of Iran, which was hit by sanctions imposed on its oil by the West. Its daily average production for the month was 2.9 million barrels, compared with an average of 3.6 million barrels a day in 2011. Iraq averaged about 2.7 million barrels a day last year.

But, the companies have been beset by problems obtaining visas for their staff and contractors in Iraq, along with facing a host of other administrative issues, including slow payment for their efforts. As a result, Norway's Statoil (NYS: STO) has already pulled out of the country. Exxon, Total, Chevron (NYS: CVX) , and Canada's Talisman Energy (NYS: TLM) , among others, have found the Kurds' willingness to offer production-sharing agreements sufficiently attractive to cause them to sign on with Kurdistan.

The dangerous Shiite, Sunni, and Kurdish mix
A result has been an apoplectic reaction from Baghdad's Deputy Prime Minister Hussain al-Shahristani, who oversees the country's oil production. Where this chain of events will lead is anyone's guess, but it occurs amid ongoing contretemps involving not only Iraq and its Kurdish minority, but also between Shiite Malaki and much of his country's minority Sunni population.

Not long after the last trooper had turned out the lights on the final U.S. compound last December, Malaki ordered the arrest on foggy charges of the Sunni vice president of his coalition, Tariq al-Hashemi. Now exiled in Turkey, Hashemi was sentenced to a trip to the gallows by a Baghdad court on Sunday. You won't be surprised to know that he has no intention to return to Iraq to lose his head. Once the verdict was announced (likely Sunni) insurgents cut loose with a series of bombings in Iraq that killed 100 and wounded about another 400.

A rumble in the region?
And then there's Malaki's -- and Iraq's -- steadily increasing coziness with largely Shiite Iran, where the Iraqi prime minister spent a number of years during the Saddam Hussein era. Malaki's coalition is wobbly to say the least. Apparently a recent intervention from Iran was crucial to staving off a no-confidence vote against him. Nonetheless, even Shiite Muqtada al-Sadr, himself a former refugee in Iran, has softened in his support for Malaki, a phenomenon that could lead to the toppling of the shaky government.

In the meantime, Iraq has also resisted claims that it has permitted Iranian aircraft to use its airspace while making deliveries of troops and munitions to aid Syria's Assad regime. If so, the Malaki government would be in clear violation of United Nations Security Council resolutions. Even more ominous is the claim by one U.S. official that Iraqi Shiite militia fighters have also been transported to Syria to lend a hand in defending the regime.

By now you don't need a rendition of Tuesday's attack on the U.S. embassy in Cairo to recognize that Graham's statement about a potential explosion doesn't constitute hyperbole. If by "this region" the senator is referring to an area including Iraq, Iran, Kuwait, the United Arab Emirates, and Saudi Arabia, then he's referring to countries that collectively produce a total of about 23 million barrels of oil a day, or more than a quarter of the world's total output. Clearly then, a Graham-predicted explosion would quickly blast crude prices into the stratosphere.

The Foolish bottom line
I'm not attempting to impersonate Chicken Little here. But I do believe the conditions described dictate a significant representation of oil-related stocks in Foolish portfolios. If nothing else, I urge you to let ExxonMobil or Chevron serve as a proxy for the group on My Watchlist.

The article Will Crude Be Hit by a Big Baghdad Bounce? originally appeared on Fool.com.

Fool contributor David Lee Smith doesn't own shares in any of the companies named in the article above. The Motley Fool owns shares of ExxonMobil. Motley Fool newsletter services have recommended buying shares of Statoil AS, Total, and Chevron. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days

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