Gold and Energy Advisor: Gold, Oil & Energy Markets Investment Research
James DiGeorgia, Mr. Macro
- Chief Editor -
Mr. Macro
Geoff Garbacz, Mr. Micro
- Chief Strategist -
Mr. Micro
Dan Hassey, Mr. Retirement
- Senior Stock Analyst -
Mr. Retirement

Gold and Energy Advisor's Real Wealth

Real Wealth #332  11/23/2015 1:09 PM EST

Is the Saudi Arabian Oil Price War Strategy Going to Bankrupt the Kingdom?

Is oil going to dip in under $40 a barrel? Is Russia running out of high tech bombs?

The International Monetary Fund (IMF) just warned last month that Saudi Arabia is facing a severe financial crisis within the next five years.

The Kingdom's strategy is focused on maintaining its market share of the oil market even, even if it means sharply lower oil prices. Maintaining their market share even if the Kingdom's net receipts for its oil production wind up being a lot less than if it cut production by 2 million barrels a day is starting to take its toll on the country's finances.  

Saudi Arabia spends the second most in the world on its military on  a per capita basis, while at the same time offering its citizens a cradle to grave social welfare system that is designed to buy off its population, and suppress religious extremism and political dissent.

If the Saudi's don't make substantial cuts in their spending or see the price of oil recover the roughly 50% drop it suffered on average for the price per barrel of oil in 2015 - the House of Saud could become insolvent..

The IMF cautioned during this past summer that Saudi Arabia fiscal deficit is likely going to spike from 16% to as much as 20%, of its gross domestic product, or about $150 billion in 2015. Saudi Arabia is almost entirely dependent on its oil and gas production. In fact, 80% of the country’s fiscal revenues come from these energy exports.

Standard and Poor's (S&P) already downgraded Saudi Arabia's credit rating to ‘A+’ from ‘AA-‘ just a few weeks ago at the end of October. The Saudi government didn't take this news well. It immediately terminated its rating agreement with the ratings agency.

The Saudis still are contesting the downgrade, but the downgrade has remained in place by the world's most famous credit rating service.

Will the Saudi's cut their oil production and drive the price of oil back over $70 a barrel?

The International Energy Agency (IEA) in its recently published its 2015 Oil Outlook which reports that unless production is cut by one or more of the largest producers of oil the oil market will remain oversupplied by as much as 1 million barrels per day until 2020.

The IEA predicts that oil demand will increase by less than 1% per year between now and 2020. This is a much slower pace of demand growth that is needed to take the current 1 million barrels of excess oil production of oil off the market. Further thanks to technological gains in solar, wind and battery innovation alternative energy generation and efficiencies could reduce oil demand growth

Worse still, the IEA believes that after 2020, oil demand will increase by just a paltry 5% over the following 20 years (or roughly 0.25% per year) through 2040.

The oversupply in oil could be made even worse thanks to Iranian oil production returning to the world market.

No danger of an immediate cash crisis for the Saudi Kingdom

The October 2015 S&P downgraded of Saudi Arabia’s credit rating to A+ from AA- does not change the "very strong capacity" of the Kingdom to meet its financial commitments. The downgrade judged by S&P means very little in the scheme of things. S&P downgrade doesn't mean that the Saudis won't pay their debts on time or in full.

S&P predicted over the next three years, they expect Saudi Arabia to finance its deficits by evenly drawing down on its almost trillion dollar of fiscal assets, and issuing new debt -- if the price of oil doesn't move back to the $65-$70 barrel.

Saudi Arabia is also focusing on cutting government spending

Saudi Arabia taking steps to cut back on government spending and its socialist cradle to grave system of patronage. A project management office has been created by the Saudi Arabian government that will report to the Committee of Economic Development, chaired by Deputy Crown Price, Mohammed Bin Salman.

While this belt tightening may not be enough to ease the IMF's concerns over the long term solvency of the Saudi state. But any efforts will help delay IMF’s warning of a financial crisis in the Kingdom.

The total budgeted spending for the Kingdom in 2015 is estimated to be $229.3 billion. The Kingdom's foreign reserves have been estimated to be $647 billion. Without sharp cuts in government spending or higher oil prices the current rate of spending, the Kingdom's current reserves could be exhausted in 3 year or less!

War on Daash is a wildcard

Note: I refer to ISIS and ISL as Daash. This is a term used by Arab's to demean these homicide lunatics and way of identifying them as not being legitimately Muslim.

So far Daash has little impact on the flow of oil out of the Middle East. The war premium that existed from the 2003 and the start of the Iraq invasion had been as much as $35 at one point. Now there's no arguable premium. But that could change quickly.

Daash is focused on terrorism that kills civilians. Blowing up passenger planes and murdering civilians. Sooner or later they will aim at the flow of oil in the Middle East and Africa as Jihadists and rebels have done in North Africa.

Oil's Potential Decline Below $40 a Barrel Revealed Erlanger Chart Room Chart.

[Image 1]

Erlanger Chart Room: If you're not using this tool before your buy or sell a U.S. stock, ETF or index - you're trading blind! Take a video toour

It's pretty ugly for oil but it may be a prelude to a final bottom. Keep in mind despite swelling oil reserves surpluses being reported in the U.S. domestic and world market the reality is that the number of oil rigs off shore and on shore that have shut down in the last year has reached 1000. Proposed projects have been cancelled and the oil industry is being hampered by high debt levels and fiscal pain. Everything we need for a bottom.

The chart above is a weekly chart and as you can see the EC spread is nearing exhaustion on the downside.

Putin's Has Already Run Out of Laser Targeted Missiles and Bombs

A unmistaken sign exists that Russia's financial woes are crippling its military capabilities.

Reports that Russia doesn't have the needed high tech military ammunition and is instead focusing on carpet bombing with "Dumb Bomb's

 [Image 2]

The sharp decline in the price of oil and western sanctions are have an indisputably negative impact on Russia's ability to wage war. Concerns about Russian bombing mission hitting free Syrian forces and civilians in Daash controlled land with barrel bombs dropped by Russian airpower are directly tied to the use of "dumb bombs".

This may indicate Russia's finances are so stressed that Putin's willingness to make a deal with the United States and its allies on a transfer of power from the Assad administration in Syria may be possible.

This would be the kind of concession that might have to secured by a 2 million barrel cut back by OPEC on production, allowing the Russian and the Saudis a catalyst for higher oil prices and solution to both country's cash flow woes!

Best Wishes,

James DiGeorgia


P.S. As we went to press with this article, the Saudi Oil Minister, Ali al-Naimi, just gave a key speech in Manama which it the capital of Bahrain. Mr. Naimi stated that the Saudis will work with OPEC and non-OPEC producers to support prices.

Remember a year ago on the Friday after Thanksgiving was the day that OPEC proclaimed no production cuts. A year later that thinking may have changed. He also warned that production needs to move from 4 million barrels a day to 5 million to “support global demand”.

P.P.S. Take a video tour of Erlanger Chart Room: Don't trade blind!

Please see risk disclosure link below.