Saudi – Iran War Could Send Oil Above $200 per Barrel

For the past year, Saudi Arabia has been involved in a military campaign in support of the internationally recognized government in Sanaa, Yemen that was forced out by the Houthi rebels.

Last Saturday, 4 November, the Houtis claimed responsibility for firing a missile at the King Khalid International Airport in Saudi Arabia. Fortunately, the Saudi military was able to intercept and destroy the projectile before it could hit the airport. The Houthis are backed by Iran.

Saudi Crown Prince Mohammed bin Salman bin Abdulaziz issued a powerful statement that the act “may be considered an act of war against the kingdom.” Bin Salman directed blame toward Iran for “supplying its Houthi militias with missiles.”

However, Iranian Foreign Minister Mohammad Javad Zarif denied the allegations of bin Salman and warned of potential provocative measures in the region as Riyadh’s statements may be perceived as a violation of the international laws and the UN Charter.

The Saudi government has also raised concern over Iran’s actions in Lebanon. Iran is a known supporter of Hezbollah which is the Shiite militant group that holds significant political influence in Lebanon’s cabinet. Hezbollah is also part of the pro-Syrian alliance in Lebanon’s parliament.

This most recent attack on Riyadh may push the region to the brink of war. It will be conflict that would have worldwide repercussions and potentially throw economies into prolonged periods of recession.

OPEC exports approximately 20% of the world’s supply of oil and shipment traverses the Strait of Hormuz which links the Persian Gulf to various global markets.

To the north of the Strait sits Iran while Oman is located in its south. A war between Saudi and Iran would lead to an immediate shutdown of this area because ship owners would not want to place their vessels at risk. Insurers could suspend insurance or send rates soaring sky high for increased coverage.

History has shown that conflict leads to severe economic downturn on a global scale.

During the Suez Crisis of 1956, global oil production fell by 10% which plunged the United States and Europe into a recession.

The 1973 Arab- Israeli War led to an Arab OPEC embargo and resulted in a quadrupling of oil prices. The reduction of Persian exports to the U.S. by 1.2 Million barrels per day sent the nation into a recession period that lasted two years.

The U.S. still imports 8% from the Persian Gulf. If war breaks out between Saudi and Iran and shipment is suspended, countries like China may try to outbid the U.S. in its attempt to import from Nigeria, Angola, Brazil and Colombia. It is estimated that if imports fall by 15% of total consumption, the U.S. could get into another prolonged recession.

However, it may have a carryover effect to the Shale industry which has seen tremendous growth the last few years as a resource for natural gas. This means while the coastal regions in the U.S. may feel the impact of high oil prices, Shale producers in Louisiana, Texas, North Dakota and Canada’s Alberta province could be headed toward prosperous times.

Countries in Europe and Asia, especially China, Japan and South Korea would be adversely affected by a war between Saudi and Iran. These countries are dependent on oil especially China which imports more than 75% of its consumption from the Persian Gulf.

A potential casualty in a Saudi – Iraq war would be Chinese President Xi Jingping’s ambitious project “One Belt One Road” which entails investments in infrastructure opportunities in projects that traverses Europe, Asia and the Pacific.

After U.S. President Donald Trump’s recent visit to China which generated more than US$250 Billion in deals between the two countries, expect President Xi to exert pressure on Trump to help end the conflict in the Persian Gulf.

However a point of contention would be China’s continued build-up of military structures in disputed islands in the Western Philippine Sea. The Philippines was granted exclusive territorial rights over the islands by the United Nations in a landmark decision that China has disregarded.

U.S. Secretary of State Rex Tillerson has stated in many occasions that China should leave these islands as it does not have territorial rights over them. The islands provide a strategic base for military operations which should be of particular interest to the U.S. given the threat of another war erupting in the Korean Peninsula.

Investors should consider placing their money on long positions in oil futures, U.S. shale operators and land drillers. Companies like Canadian sands producer Suncor and Brazilian oil refiner Petrobras may also present good investment opportunities.

With the possibility of war looming on two regions, the world will once again have its eyes on the United States. Will it assume the role of global policeman and move to calm tensions in the Korean Peninsula and the Persian Gulf? Or will the new administration under Donald Trump continue to poke the beasts within North Korea and Iran with inflammatory rhetoric delivered through social media?

During his inaugural address to the United Nations, Trump discussed his idea of Principled Realism; upholding the interest of the United States without compromising its values.

Principled Realism can be summed up as follows:

“We can show you how to resolve conflict but don’t ask the United States to do it for you.”

Trump must realize that at this time, the world’s interest is also the United States’ interest. If it does not mediate conflict and find resolution through negotiation, the world may just start counting down the End of Days.