Thursday, March 10, 2011

Saudi Arabia's Catch 22

By now we have all heard reports of security forces firing on demonstrating citizens in the Kingdom of Saudi Arabia ("KSA").

KSA is in a very precarious situation: They cannot survive $50 Oil internally and they will lose their international support and sponsorship should Oil rise to, say, $150 (pulling both numbers out from my hat). If Oil prices were to collapse again, as they did in 2008 - 2009, The House of Saud would be without the Oil revenue they rely on to placate the masses... it then follows that they will endeavor to avoid this outcome at all costs. Given that, isn't it quite possible that they could error on the side of overly constricting output? Could this error lead to $150 or even $200 oil for an extended period of time? Sure it could. Wouldn't that have profound political and economic outcomes here in the West and the U.S. in particular? YOU BET.

I could game this out in scenario after scenario... but I think you get the idea. KSA simply cannot allow another price collapse to unfold... and given the (to my mind) certainty of what would happen as a result,  a price collapse does not seem to be in the best interests of the Oil importers, either - $100 is better than $300.  TPTB in the KSA simply must be looking at what happened to oil prices following the the 2008 price spike and dirtying their underwear with visions of hangmen's nooses and executioner's axes dancing in their heads. ( My brother recently quiped that they "can go out like the English monarchy or the French monarchy". My sense is that that is not far from what they must be thinking about as I write this.)

This is not to say that the price of Oil could come in, and hard, if China's soft landing fails to materialize. Looking at cooper prices these last couple of weeks leaves me more than somewhat concerned about what is going on over there... far more so than their "surprise" trade deficit. Actually, the trade deficit and the copper price decline should be mutually exclusive events (to my mind).... we shall have to wait for more data... if the price decline for copper is the winning data point, one can't help but become completely freaked about the price of the overall commodity complex... even Oil.

The House of Saud has been sleeping under the Sword of Damocles for quite some time. It appears to me that the thread holding that sword aloft is coming undone.

This is truly a fascinating time to be a thinking person.


I think the great commodity run is done. I know I have alluded and hinted it was there at year end... so sue me. A couple of months off does not make my analysis incorrect. You can stick a fork in it.  Copper is leading the way - the correlation between copper and the precious metals is well over 90%. Inflation? NAFC - maybe you THINK you are seeing inflation in commodity prices... let me know when you see it in housing and labor prices or in bank lending... my bet is your vision will be a great deal worse and your hair quite a bit more grey (too late for me, there just ain't much black hair left) before you see ANY of those things... but if you do see it, by all means, point it out to me... cause I must be freaking blind.

Bonds and high dividend paying stocks are where its at in my humble opinion. I know that the guys over at The Daily Reckoning believe housing has bottomed and the precious metals are a long way from the top... I reject housing out of hand, and I will trust in copper more than anything else to lead me out of temptation regarding precious metals.  ESPECIALLY if Oil goes up big (and smushes China's and Europe's economy in addition to ours) because of supply issues (which will only lead to demand destruction the likes of which will be absolutely do wonders for the prices of bonds from issuers able to fulfill their obligations).

Of course, there are flies in this ointment, too. Grain prices are ALL about the weather and growing conditions this year (I know some people blame food/grain prices on Bernake... but if that were the case the grain markets would be in contango - not backwardation) but if the crop is good... look for prices to go down like a rock in a pond... at least when compared to the front month prices - that's what backwardation looks like as a practical matter.  The better risk/reward play (unless you can predict long term weather patterns) is elsewhere.


Donal Lang said...

All bets are off this morning as Japan and the whole Pacific rim get a battering. As the Tokyo oil refinery burns, any bets on the price of oil by the end of the day?

Donal Lang said...

Here's an interesting commenton the insurance cost of the earthquake and tsunami. Note the last line. Stock markets will take a hammering today:

"Arjuna Mahendaran, chief Asia strategist of HSBC Private Bank in Singapore, played down the risk of any long-term impact on the currency.

"Japan's big insurance companies and pension funds have been bringing funds back into Japan," he said. "And that has kept the currency strong. I think if the damage is too big, we could see them further liquidate their foreign assets and bring funds back to Japan."

Anonymous said...

Greg- are you going all negative on precious metals? Or just avoiding any new purchases?

It seems like bonds would be crazy at this point with interest rates bound to rise(if just to compensate for USD risk).

Thanks, Marshall

Greg T. Jeffers said...


I am going negative on precious metals IF copper continues down. Of copper heads up, I might well change my mind. I think the run in commodities is over... with the exception of Oil, and that is politically driven... which means that one is dangerous either way... but I could be wrong; this is not investment advice.

Greg T. Jeffers said...


Silver is a very, very small market... if someone big is caught short BIG, this could go much higher... if not, it falls with the rest... very tough trade.

Anonymous said...

Greg- thanks for the good answer. I am long a lot of gold & silver which was bought at much lower prices. Plus some larger mining stocks.

Best, Marshall

Shadowfax said...

if you are long a lot of gold take a profit!!
I have some physical gold and silver for long term,i mean like for my old age.

PioneerPreppy said...

Good advice Shadow. I was long silver until it hit 2.5x my buy in (which was Monday) and I sold off half. The rest at this point is "what the hell let's see where it goes" after locking in profits. Physical PM's are the ones you keep, paper ETF's who cares. Take the money and run.

Since we are back on MENA, kinda, I been watching the reports of Egyptian army units and other "moderate" Sunni's attacking and killing more and more Copts. No way democracy is taking hold there it's going to become a bloodbath soon.

Greg T. Jeffers said...


Saudi Arabia is a forgone conclusion as a blood bath... Egypt could go either way... but as Egypt goes, so goes the Arabs in North Africa I think.

In the short term there is bound to be lots of really bad stuff in store for North Africa.

Anonymous said...

Gold and copper correlation is very high over short periods.
But since 1985 Base metal stocks are up over 1800% versus just 180% for Gold stocks.
Awesome correlation

Greg T. Jeffers said...

Dear Anon:

Register or use a nickname. I don't debate "straw men". Especially sarcastic jerk offs like you.

Who said "base metals"? I said copper.

Her is the 15 year chart for copper:

I think copper is done for some time. Notice I said "I think". I am not sure of anything. Copper is my canary in the coal mine - you can use whatever the heck you want. Also, my comments ARE NOT investment advice - you are on your own.

I would like to point out that I made a living for over 20 years trading. I have been wrong quite often - the trick to be successful at this extremely stressful occupation is the ability to admit when you are wrong - and to do it quickly. Those that cannot admit when they are wrong DESTROY themselves in this business.

Somehow I doubt that you possess this trait.

If you wish to engage me in rational co-examination of the data, by all means, let's get to it. If you are going to continue to display your Borderline Personality... please drop dead.

saif said...

Hey Greg or anyone else here who might know....
Is the interest generated by the FR and turned over to the Govt counted as part of the deficit calc and future deficit assumptions?