This week was already billed as an important market week given the US Federal Reserve is expected to cut rates on Wednesday. Not only that but we have a super Thursday with the Bank of Japan, Bank of England and the Swiss National Bank all with their respective interest rate decisions. A heavy central bank week. To round it all off, I have been told to include the Area 51 raid on the 20th, which will likely cause headlines and potential market movements. All jokes aside, this is the state of the world where even Facebook events can cause markets to move.
Over the weekend, I responded to this strike on Tradingview. The idea can be read here:
You can see my original chart and also read other geopolitical details. This blogpost will mainly recycle a lot of that content but I will add some more thoughts.
The Oil markets did gap up today and closed 14% in the green on the news that Saudi Aramco facilities were hit by a drone attack and 50% of the Saudi output was affected. A lot of emotions displayed by the mainstream media from “oil to $100 a barrel” headlines, to talk of Saudi Arabia benefiting from higher oil prices for the Aramco IPO come 2020 or 2021.
Technically, we retested the flip zone that I mentioned in the trade idea and did create a higher low:
We can make another wave higher but more on this later.
The Americans were quick to say this was an attack by Iran, and today Secretary of State Mike Pompeo said they have evidence to prove it was Iran. This has been called an unprecedented attack by Iran on the world’s energy infrastructure and supply.
China on the other hand came out saying it is best to have a thorough investigation. Also , if I may add, Rouhani, Erdogan and Putin met in Ankara, Syria solidifying the ties between these nations as I have outlined in the past.
If you follow my work, there are two things I have always said regarding oil, and also Iran.
Firstly, I am bearish on oil due to the supply glut and the fact that we are likely heading towards a recession. The only thing that could keep oil propped was geopolitical events and tensions. I also warned that there is a large incentive to keep oil prices propped. Yes, oil producers do have an incentive, but generally all OPEC rulings are cheated on (check out my blog post on OPEC and Game Theory).
Also, during the last fall in oil, governments essentially forced banks to loan money to struggling oil companies to keep them afloat (jobs). These banks would not regularly loan money to these companies because they know there is no way these companies will pay them back. They have a lot of debt and are now zombie companies; surviving on cheap interest rates and cheap money to borrow to pay off interest on their loans.
This means that ‘they’ cannot allow oil to fall because not only will oil companies have issues, but also the banks which have given huge loans to them. Could lead to another systemic banking crisis. So do not be surprised to hear events which could prop oil.
A few months back we had Iran hit a Japanese oil tanker (as the Americans claim) while Japanese PM Shinzo Abe was in Tehran. These type of events could be used to keep oil up…however there is another reason which leads to the second thing I have talked about on my blog.
Secondly, Iran is KEY for Russia and China when it comes to their plan to hit US Dollar demand. The Americans know this and I am sure Washington strategists know Iran will eventually have to be taken out.
How do you get people to support war when they are tired of war? You need two things: 1) National Interest and 2) Moral Purpose. This is where the media comes in to create these if needed.
Everything we hear about Iran hitting oil tankers, to now being behind these Aramco attacks hint at national interest and moral purpose criteria being met. If oil spikes and consumers are forced to pay more at the pump when living costs and inflation increases, they will of course be upset. Easy to say this was Iran’s fault. We tried everything peaceful but look at their actions. If we intervene we can stop this.
Of course oil prices would spike, but the point is that this was used to achieve a foreign/geopolitical policy objective.
Russia and China are attacking Dollar demand. Right now the US has what the French called ‘exorbitant privilege’ meaning as long as the Dollar remains the reserve currency, there will always be artificial demand for it. Meaning the US can print as much dollars they want without having to care about their debt and deficits.
Once US Dollar demand takes a hit, the Chinese can sell off their treasuries and do some damage ( especially when interest rates are cut and moved lower). But they are targeting the Petro Dollar: the US Dollar being used for oil payments.
Iran is key for Russia and China. As the US Dollar gets stronger, nations such as South Korea, Japan, Turkey, India and some European nations have chosen to purchase oil from Iran because Iran accepts any currency besides the US Dollar for their oil . Japan, South Korea and some European nations have chosen to lessen or halt their imports due to US pressure. However Turkey and India told the US to mind their own business.
The Indian Rupee and the Turkish Lira have been decimated due to the US Dollar strength. These nations essentially cannot afford using the Dollar to buy Oil . Iran is convenient for them because they can use their own currency to purchase oil .
As the US Dollar gets stronger, more nations will want to ditch the petro dollar and purchase Iranian oil . On a side note, Russia and China have put a lot of money into Venezuela and backing Maduro…it is likely they have told him that when Venezuelan production comes back to par, Venezuela will NOT accept US Dollars for their oil . Whereas the US backed Guaido would essentially only accept US Dollars for Oil . We have seen this situation occur with Saddan Hussain in Iraq and Gaddafi in Libya where it was likely they were taken out due to the fact they were beginning to accept other currencies besides the Dollar.
The Russian and Chinese plan is simple. To get more nations to drop the US Dollar as the Dollar price goes up. In fact with their large Gold reserves, they may be telling dark pools to keep buying the dollar. Yes, their currency will fall against the US Dollar , but gold priced against their currency increases so they avoid damage. This is how the Russian central bank pretty much fought off US Sanctions.
So as the Dollar gets stronger, more nations will elect to purchase oil from Iran. This means that Saudi Arabia begins to lose market share because their customers are going to Iran. This would force the Saudi’s to drop the Dollar in order to entice customers…but there is another thing.
Putin has been getting close with Mohammed Bin Salman (MBS) who is expected to be the next King. We have all seen that Putin-MBS and Trump watching from behind high five meme.
Right now Saudi Arabia can influence American foreign policy greatly. I am sure they have told the US to deal with Iran otherwise they drop the Petro Dollar. They are in a very strong position.
For the Americans, I think they know that Iran is the key. They know they need to take Iran out. Of course Iran is no pushover. But the military will have to strike Iran in order to protect US Dollar demand. The US military is the armed branch of the Federal Reserve and the US will have to use the military to force every nations to accept and use the US Dollar and punish those that do not.
It will be very interesting to see how oil ends up closing for this week. If geopolitical tensions keep it propped up, or the sellers come back in knowing of a supply glut and possible recession.