Geopolitics came back with a vengeance in the weekend headlines after Iran-allied Houthi rebels in for Saudi Arabia neighboring Yemen launched coordinated strikes of 10 drones on two key oil locations in Saudi Arabia’s oil-rich Eastern Province.
The attacks hit the world’s largest oil processing facility in Abqaiq that has a capacity of 7 million barrels per day and Khurais, which is Saudi Arabia second largest oil field.
The attacks have knocked out (temporarily) about 5.7 million barrels per day (bpd) of oil supply.
People familiar with the matter told The Wall Street Journal that Aramco has determined that its facilities were hit by missiles. A U.S. government assessment determined that up to 15 structures at Abqaiq were damaged.
Aramco expects to restore roughly a third of its crude output that stood at 5.7 million barrels of daily production, Saudi officials said. The strikes will likely leave the country short of full production capacity for weeks, the Journal said.
President Donald Trump tweeted: “Based on the attack on Saudi Arabia, which may have an impact on oil prices, I have authorized the release of oil from the Strategic Petroleum Reserve, if needed, in a to-be-determined amount.”
He continued in another tweet:
“Because we have done so well with Energy over the last few years (thank you, Mr. President!), we are a net Energy Exporter, & now the Number One Energy Producer in the World. We don’t need Middle Eastern Oil & Gas, & in fact have very few tankers there, but will help our Allies!”
So far, oil prices are firmly higher with Crude oil WTI and Crude oil Brent both +10 percent.
There is no doubt that all this will have an impact on global inflation and global GDP. Oxford Analytics has just published a new analysis that shows inflation is tilted to go up and GDP is tilted to weaken somewhat. No doubt that the FOMC members will take this week a close look at similar scenarios.
For trying to make deeper analyses we will need some more time and certainly more detailed assessments of the damage that have caused the attacks in Saudi Arabia.
Now, it’s a fact that the attacks on the Saudi oil plants and oil fields have boosted concerns about oil supply security in the Middle East and should raise the risk premium in the global crude oil market.
S&P Global Platts said in a note on Sunday: “The sudden change in geopolitical risk warrants not only an elimination of the $5-10 a barrel discount on bearish sentiment, but adds a potential $5-10 a barrel premium to account for now-undeniably high Middle Eastern dangers to supply and the sudden elimination of spare capacity. As such prices are likely to break out of the current $55-65 a barrel options range, to test the high $70s as currently supported by fundamentals.”
On the other hand, analysts told the Wall Street Journal that the attacks will likely have a limited direct effect on the U.S. economy.
As an investor, I would try to keep it all as simple as possible and I still wouldn’t look into other places than the U.S. and the dollar to invest in.
When on Wednesday, the Federal Open Market Committee (FOMC) decides on the Fed Funds Rate that has a current target rate of 2.00-2.25 percent and which is likely to be lowered by 25 basis points to 1.75-2.00 percent, the Fed officials will probably put some more weight on a series of geopolitical risks that include, of course, the ongoing U.S. – China trade dispute, the ongoing unrests in Hong-Kong and UK’s Brexit from the EU.
An interesting question will be if the so-called insurance factor could move the Fed’s rate cut up to 50 basis points.
Anyway, Fed Chair Jerome Powell’s press conference on Wednesday could be an interesting one.
Keep in mind that beforehand we will have gotten insight in the Fed’s own economic projections.
Etienne "Hans" Parisis is a bank economist who has advised investors on financial markets and international investments.
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