The Dow Jones 2,000 point Collapse Since December And Global Bear Market Driven by the Saudi Arabian/Russian Oil War
When I wrote my book "The Global War for Oil: $100 Oil and How to Profit from it" in 2005, the big danger and concern was that Middle- East, North and West African terrorists could interrupt the supply of oil. I was also concerned about the cost of oil production and growing demand was capable of reducing oil production to the point that the price of oil would soar to US$100 a barrel.
I also considered the danger of Middle-East oil producers pulling off another 1970's kind of embargo that could drive oil right back to US$100+ a barrel. A strategic attack on the flow of oil to industrialized and dependent world was another concern. But I never considered the possibility of the possibility of the world's largest oil exporter flooding the market with oil. That is where we are now.
When I wrote my book oil was trading between US$20-$30. My prediction that crude would soar to US$100 a barrel was right on the money. Yet, because I didn't see the two key events taking place that would fundamentally change the basic supply/demand picture underlying the oil market.
The first change to take place was the incredibly fast acceleration of technologies and economic efficiencies that would be achieved in shale oil that would drive the cost of development and production down to the point that U.S. oil production would soar to levels we could only dream about.
Second, while I expected a war for control of the oil reserves in the Middle-East, and recognized that oil could be leveraged as a weapon when withheld from the market, I never considered the possibility that it would be leveraged as a weapon by the largest oil exporter against the second largest oil exporter to flood the world market and cause black gold to collapse as much 70% in price.
While I also predicted several years ago the approach of a global currency war, I never considered for a moment a currency war, and the deflationary pressures would be set off by the flood of crude oil into the world market that we have seen the last two years.
In fairness to me, the possibility that Saudi Arabia and OPEC would purposely allow the world market price of oil to collapse after repeatedly insisting at US$70, US$80, US$90 a barrel that the price of oil suited their long term goals was just beyond my imagination. My mistake of course was not recognizing the life and death struggle for power in the Middle-East that was slowly emerging between the Sunni Oil Kingdoms and Iran. I simply missed the lengths the Sunni Oil Kingdoms would go to strike out at Iran's principal military, economic and political supporter Russia.
Yet, the Saudi decision to flood the world market with oil to undermine both the new supplies in oil coming from shale and to flood the world market with oil in retrospect made tremendous sense.
By reducing the world market price of oil, the Saudi's have short circuited shale and other oil production dramatically. Over 1000 oil rigs in North America have now gone idle. At the same time the price decline of oil threatens to repeat Russian history. IF the price of oil continues to stay under US$45 a barrel for a few years there's a real danger that the Russian economy will be driven to bankruptcy. After oil it was the extended period of low oil prices that bankrupted the Soviet Union.
I am not the only one that missed the new technologies acceleration and the geopolitical imbalances that would be prompt the Sunni Oil Kingdom's to willingly crash the price of oil. Russian President Vladimir Putin and his advisors missed the danger completely.
Until the deflationary impact of flooding the world market with oil, few people did but I however recognized the reality of the wider danger and yes profit opportunities that would be created in the world's financial markets. First the danger...
The collapse in the price of oil has created the real danger of a new sovereign debt crisis and set off a worldwide economic crisis that could trigger the level of panic we saw in 2008 -'09 and during Europe's Greek and European banking crisis.
The current low market price of oil has set the stage in the next 6-12 months for full-scale sovereign-debt crisis to bludgeon oil exporters like Russia, Venezuela, Niger, Iraq, Mexico, Brazil and dozens of smaller oil states. Countries that are already suffering simply devastating devaluations of their currencies, radically higher rates of inflation now face an overwhelming threat of their banking systems being caught up in the maelstrom of panic and collapse.
The danger is growing every day oil stays at the current price levels of a new world-wide banking crisis. This would mean a new Euro zone banking bailout out - and even bail outs of what were once very prosperous oil states.
In short, the danger approaching was created and started as a controlled fire by Saudi Arabia to push back new oil production and discourage Russia from continuing its support of Iranian expansionism in the Middle-East. Described by many oil and political analysts as a policy pursued by Saudi Arabia to protect its share of the oil sales worldwide, just doesn't accurately portray what has really taken place.
Ironically, among the dangers not foreseen by Saudi Arabia with regard to allowing the world price of oil decline from over US$100 to as little as US$25 a barrel is the unleashing of a financial contagion capable of not only potentially triggering several national bankruptcies, a domino chain of bank failures, and global financial panic and a severe global recession. But at the same time an economic and political environment that could also bring down the Saudi Kingdom itself.
Make no mistake rise of sub zero interest policies employed by the world's central banks to deal with the deflation and worldwide recession means that key banking institution around the world that has been the direct result of the collapse in the price of oil now threatens the world's banking system. It's a nightmare scenario of deflationary spiral could potentially do such great harm to the world economy that it could actually turn the growing worldwide demand for oil from 1% -2% annually to an environment in which the demand for oil actually starts to decline by 2, 3 even 4%- a nightmarish risk for oil producers universally. In other worlds the Saudi decision not to sacrifice some of its oil share by reducing oil production by as little as 10% perhaps 13% has the potential of backfiring by undermining the world's economy, and its demand for oil globally.
A sneak peak of the danger possible is now playing out in the former Soviet Union Republic of Azerbaijan which already has the International Monetary Fund (IMF) entertaining a bailout request. Azerbaijan has seen its economy hit hard by the sharp decline in oil prices.
Azerbaijan's talks with the IMF about emergency assistance that had built its foreign reserves while oil was trading over US$90+ a barrel has now seen 60% of those monies evaporate and is hoping to secure a IMF loan package of more than US$4 billion.
In Mexico and Canada the sharp decline in the price of oil has been steadily chipping away at the value of the Peso and Canadian dollar. Lower tax revenue in Canada and government royalties from oil in Mexico could push both countries' economies in to recession while other major exporters of oil like Brazil, Venezuela and Ecuador to the point that their governments and political infrastructures succumb to military takeovers and revolutions. An ever present reality this has become in Central and South America.
Brazil's economy is in steady decline by virtually every valid economic measure. In fact Brazil's economy hasn't looked this bad since the Great Depression in the United States which happened in the 1930's. Brazil's unemployment rate is spiking and could top 9% before the end of this year. At the same time inflation is already now over 10.6%.
At the same time, the country is fighting an acceleration in the rate of inflation, 20 leading economists have already forecasted that Brazil's economy will contract by 2.5% this year.
This makes it extremely difficult for Brazil's Central Bank to battle inflation. It's a confounding confluence of high inflation while the country's economy is contracting. Interest rates in Brazil are over 12%.
The situation in Venezuela, is even worse. Thanks to the Chavez/Maduro administrations. President Maduro, Chavez' increasingly unpopular successor has already announced a new raft of executive emergency orders that almost immediately drew the scorn of economists around the world as being a useless charade. In fact, Venezuela is importing currency from Germany that is being printed to deal with inflation that is now coming in at 725%.
Then there's Ecuador and Niger that rely on oil exports. Both nations are literally are edging towards the brink of national collapse.
Nigeria, has already requested a US$3.5 billion in loans from the World Bank and the African Development Bank to alleviate cash crunch caused by the tumbling price of its oil exports. It's not a question if Ecuador will lead a World Bank or IMF assistance - it a matter of when.
The flood of oil perpetuated by Saudi Arabia has worked with regard to undermining the Russian economy. Russia’s budget was estimated by the Russian finance ministry to be $20 billion in 2016, about 3% of GDP. But that estimate was based on oil at $40 a barrel. That estimate may prove to be underestimated by as much as 30%.
The Russian economy has already slipped into recession — the most recent figures show it contracting at an annual rate of 3.7% — the ruble has been in free fall, and the country is burning through its foreign reserves. Putin may be ratcheting up his military adventurism in Syria, Ukraine and acting as if he may invade the NATO member Baltic States, has failed miserably to diversify and modernize the Russian economy.
In truth the Saudi's strategy has taken advantage of Putin's eaviving Russia at the mercy of the energy markets and the plummeting commodity markets that the country has relied on since Putin came to power in 1999. Sanction by the West over Russia's annexation of Crimea and trespass in the Ukraine have just served to compound the nations woes.
Which countries go bust, and how long it take them to get there, remains to be seen. But one thing we learned from the collapse of 2008, and the euro crisis of 2011, is that a sovereign-debt crisis quickly morphs into a banking crisis.
As Greece, Portugal and Ireland tumbled into or towards bankruptcy, the losses rippled out into the banking system.
Loan Defaults to both private and national oil companies, and infrastructure projects is already caused a troubling impact of the European banks. The European Bank Index (FX7) down by 30% since the start of the year, as investors have gradually come to the realization that the banking sector could ultimately face enormous losses from the decline in oil prices.
Shades of the panic we saw during the European banking crisis are re-emerging. Last week Deutsche Bank put out a statement attempting to reassure investors it was “rock-solid” — is familiar to the kind of assertions we saw from Europe's largest banks before the chaos hit last time, that are still in intensive care. Greece doesn’t look like it will be able to stand on its own two feet any time soon. Watch for Greek headlines to start hitting in late February or early March.
Another round of rescues will add a huge amount to the bill. Even so, the money will have to be found. The key will be demanding reforms in return. No country in 2016 should be dependent on oil exports alone — any that are, will remain at risk of going bust, and have to find new sources of growth. If they can’t, unlike the peripheral Euro zone, these states will fail.
The danger to Saudis and the balance of the Sunni oil kingdoms cannot be understated. The slide in oil prices is already having potentially disastrous effect on Saudi Arabia's own finances. It has already forced unprecedented cuts in the cradle to grave economic security it provides its citizens to pacify and mollify dissent. Even though Saudi Arabia has the lowest production costs of oil in the world, it also has huge expenses and virtually no other sources of income. An inability to maintain its domestic spending could eventually lead to a hard line al Qaeda revolution.
Official figures from Saudi Arabia show it ran a budget deficit of $100 billion last year, and with the oil price still falling. That works out to about 15% of the kingdom's gross domestic product. While Saudis have plenty of foreign reserves and assets to fall back on but when a country that size is spending 15% more than it brings in every year amounts to a very serious national security threat.
What this all means for investors?
The rising danger of another world financial crisis has not escaped the attention of the world's financial markets. The 2000 point decline in the Dow Jones since the beginning of this year and the fall in the stock markets of the emerging world by 20% signals that markets are paying attention. The rise of the dollar and collapse of relative currency valuations were warning signs of either ...
The approach of devastating world economic collapse or the point at which Saudi Arabia and OPEC will have to either unilaterally cut its supply of oil to the world market. I'm betting on a coordinated cut in the supply of oil between OPEC and Russia that will bring the world's economy back from the brink of the abyss.
The dance to re-establish a supply balance in the world's oil market is already underway that will first drive crude oil back up to US$45 a barrel in the next 8-12 months. Then to slowly lift its price back over US$55 a barrel. Way too low to help Iran that needs oil to rise over US$90 to meet its cash flow needs to restore any sort of tune economic stability.
Raising the price of oil by supply cuts has its limit now because of a new technological reality that Saudi Arabia and OPEC can no longer ignore. Fossil fuel including oil faces the real threat of economically viable and cost effective solar power and rapidly improving and efficient electric battery storage.
This morning we got the first attempt of such a deal with Russia and Saudi Arabia agreeing to hold mid January production levels along with several countries. Markets did not like this deal and we expect to see more deals to achieve first US$45 and then US$55.
For investors the reality of the new oil/alternative energy paradigm is a two-fold profit opportunity.
First, in the oil patch. Over the next 8-12 months many of the world's senior and large independent publically traded oil companies will see their shares rise 30% to 100%. Mergers in this market sector should soar, as stronger players consolidate weaker players.
The second big opportunity can be found in the devastated ruins of the alternate energy, solar power sector of the market. The crash in the price of oil has also crashed the demand and fervor by investors in solar and cutting edge battery company shares. The slow gradual rise in the price of oil on the other hand will re-ignite investor recognition of the obvious.
Technology is advancing at such an accelerating rate that that within the next 25 years the energy supply to the world will move from being supplied in the vast majority from fossil fuels like coal, oil and natural gas to solar, wind and nuclear. Nothing will stock the acceleration in technologies underway.
In my newsletter Gold and Energy Advisor I will be recommending both oil and breakthrough energy stocks that are at near or close to rock bottom that have the potential to rise 50% to 250% in the next three years. In other words, I will be making recommendations that will allow my subscribers to benefit from the near death almost caused by the current war for oil.
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P.S. You might wonder why the entire article listed oil prices as US$ instead of $. There is a simple explanation. Along with everything I have told you today, it also has been reported that Iran is only going to take payment for its oil in Euros. You see Iran and its partner Russia want to break the Petro Dollar payments. A new cold war is indeed upon the U.S. and Russia being driven by the price of oil. More on this situation in our next update.