Trump, Oil Wars & the U.S. Economy
Until now, the trade war was mostly words.
Friday it went hot. The Trump administration slapped China with its first round of $34 billion in tariffs.
He also threatened up to $500 billion more if China doesn’t play ball. China of course retaliated in kind, and so it goes.
Still, don’t let all the 24-7 trade war drama distract you from another spat unfolding in the Middle East. Because it could be much more devastating to the U.S. economy.
I’m talking about the oil war against Iran.
Two months ago, President Trump bowed out of the Iran nuclear agreement vowing to reimpose economic sanctions. The biggest weapon in this arsenal is a ban on Iranian oil exports.
Two weeks ago the State Department announced a zero-tolerance policy on Iranian oil.
This means the U.S. will “work with those countries importing Iranian crude oil to get as many of them as possible down to zero by Nov. 4,” as reported by Reuters.
It’s no surprise that crude oil prices spiked higher on the news. West Texas crude now trades north of $74 a barrel, and likely is headed higher.
If successful, a total ban on Iranian oil exports would remove 2 million barrels a day from global supplies.
Can You Say Price Shock?
According to Merrill Lynch, a complete cutoff of Iran’s crude exports could result in a price spike above $120 a barrel!
That’s a 67% surge from today’s levels and would send inflation skyrocketing in the process. Much like during the Arab oil embargo in the 1970s.
The last time Iran was hit with sanctions, it subtracted about 1.2 million barrels a day from global oil markets. But at that time, U.S. domestic shale oil drilling, plus Libyan output was enough to offset the deficit.
This time around however, global supplies are a lot tighter and a deficit of that magnitude won’t be so easily offset. The Trump administration has asked the Saudi’s to tap spare capacity to pump more oil in hopes of offsetting the deficit from Iran.
But Will They?
Analysts are skeptical that Saudi Arabia has that much spare capacity. It’s also in the Saudi’s best interests to let oil prices surge higher.
For some time now the Kingdom has wanted to IPO its crown-jewel asset: The giant, state-controlled Saudi Aramco oil company.
The Saudi’s want to raise more than $100 billion for their sovereign wealth fund by publicly listing a small stake in Aramco. This would instantly make it the world’s most valuable stock with an estimated market value of $2 trillion.
But the IPO has had one delay after another. The main stumbling block is the rich valuation the Saudi’s seek.
Energy industry analysts think a valuation closer to $1 to $1.5 trillion is more realistic, creating a huge gulf of up to $1 trillion.
However, higher crude prices would quickly raise the market value of all oil and gas stocks.
Many of us remember what the oil shocks in the 70s did to the U.S. economy.
And while, thankfully we aren’t nearly as dependent today on crude imports, a price spike anywhere near $120 a barrel would play havoc with the global economy today.
Especially with inflation already on the rise.
Even if $120 a barrel oil is a long-shot scenario, here’s a good hedge against it.
The SPDR S&P Oil & Gas Exploration & Production ETF (XOP) is already up about 40% since February’s low.
The oil industry’s benefiting nicely thanks to a $15 per barrel rise in oil prices since February. Now imagine what $120 oil prices would do for the energy sector’s profits!
Here’s to growing your wealth,
Chief Income Expert, Mike Burnick’s Wealth Watch