Notes From Underground: OIL–A CONJECTURE

Before I take a few days hiatus (well deserved) and with the world in a more “serene” state, it is a good time to contemplate the recent news out of the GULF REGION. In a story in yesterday’s Financial Times, “Saudis battle to calm oil fears,” it seems that the Saudis have consigned 11 VLCCS to send a total of TWENTY-TWO MILLION BARRELS of crude to the U.S. This is an interesting development as high U.S. gas prices are seen to be an issue in the upcoming presidential election.

NOTES FROM UNDERGROUND tries to analyze the impact of political decisions on the economy and vice versa. Sifting through the news to find nuggets that can result in profitable trades. THE FOLLOWING IS CONJECTURE: Why is the U.S. suddenly making a large deal for Saudi OIL? A possible explanation may be that the OBAMA ADMINISTRATION wants to impact summer driving prices and do so without the acrimony that will come from releasing supplies from the STRATEGIC PETROLEUM RESERVES.

The media buzzes everyday with the probability of an Israeli attack on Iran, which purportedly keeps a “risk bid” to the crude as nobody wants to be short crude in case the Iranians close the STRAITS OF HORMUZ. While the Israelis are the headline it seems that the SAUDIS are always missing from the story. For all the years I have studied the GULF OIL situation it has been the Saudis who are very fearful of Iranian designs for the GULF REGION. Even during the Shah’s reign there were fears of an Iranian design on the huge oil reserves of the GULF. The Saudis financed the Iraqis during the Iran-Iraq war of the 1980s to insure against either side becoming too dominant.

While the Israelis are certainly concerned about an Iranian NUCLEAR WAR CAPABILITY, the SAUDIS may be even more fearful. A nuclear Iran throws the entire SUNNI GULF ARAB states into an arms race as the GULF KINGDOMS search for a deterrent. Not only is OIL a key but the desire for control of the ISLAMIC HOLY SITES of MECCA AND MEDINA are an added bonus. While the Israelis grab the headlines did the White House make a deal with the Saudis and promise to remove the Iranian NUCLEAR CAPABILITY after the election????

Again, conjecture, but this concept works on so many different levels. It is not the first time that a President has played domestic politics with OIL or other commodities. Nixon with the China card and cotton; George H.W. Bush and the oil prices in 1986; Reagan and Iran-contra … U.S. PRESIDENTIAL POLITICS is ladened with international intrigue for domestic political advantage. LOWER OIL PRICES WILL AID CONSUMER DEMAND AND EVEN PREVENT INFLATIONARY FEARS FROM DRIVING THE FED INTO ACTION (HA HA).

Also, the heavily stressed EUROPEANS could use some relief from the drag of rising oil prices. It is the Saudis that have the ability to ramp up production quickly to expedite the impact of summer energy prices. NATURAL GAS PRICES WERE President Obama’s winter gift. Will SAUDI CRUDE be the summer present? Again, just thinking outside the BOX and looking to understand the GLOBAL MACRO LANDSCAPE.

***Quick Hitter: It was ANNOUNCED TODAY THAT THE EUREX EXCHANGE IS GOING TO LIST A FRENCH BOND FUTURES CONTRACT, WHICH WILL PROVIDE AN ALTERNATIVE TO THE ITALIAN BTP and THE GERMAN BUND. This will be an important development and will relieve the pressure as CDS and BANK SHORT SELLING will not be the sole hedges for covering peripheral sovereign debt risk. Will we see a SPANISH BOND FUTURES to help mitigate Spanish sovereign risk? So much to consider as we head into the throes of the political season.

***In Chairman Bernanke’s testimony before the Committee on Government Oversight and Reform, the emphasis was on the continuing problems in Europe. While the Chairman noted improvements in the current crisis, the view from the FED was that there were still many problems plaguing the nations of Europe and the crisis was far from over. Mr. Bernanke noted that the U.S. banks had very little exposure to the peripheries and carried some CDS risk, the U.S. financial system has large exposure to the “core” countries.

It is no small matter that the Fed Chairman says there is large exposure to the big European banks in the CORE for in a solvency situation the core will be greatly stressed and with it the U.S. money centric banks. The overall tone of the testimony was that the FED CHIEF will err on the side of caution as he maintains his credentials as a fundamentalist of the 1937 analysis. Better to be sure that the recovery has genuine traction.

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8 Responses to “Notes From Underground: OIL–A CONJECTURE”

  1. ET Says:

    Good stuff, Yra, thanks! But could it be that the Saudis are sending oil to the US for safe keeping?

  2. cinder Says:

    The most likely reason for Saudis to send crude to US is to feed their JV – the Port Authur refinery in Texas. It underwent a massive expansion recetly from 275kbd capacity to 600kbd, making it the largest refinery in the US. Whereas with time this refinery will be able to optimise its slate by buying the cheapest crudes around, the start up period requires it to run same quality crude. 22m bbl will be enough for about a month and a half…

  3. yra Says:

    cinder–thanks for the add of information.This will be an ongoing story as we head into the election period and again its needs watching .Many things in motion –which will keep the markets on the HOP.

  4. asherz Says:

    “While the Israelis grab the headlines did the White House make a deal with the Saudis and promise to remove the Iranian NUCLEAR CAPABILITY after the election????’

    More likely scenario IMO is a US attack on Iranian nuclear facilities sometime after the middle of October. Bin Laden takeout had a very positive effect on the White House for a few weeks. Iran operation would win the election.

  5. jeditrader87 Says:

    Good post and serene is a great way to describe the psychology going on in the global market. Personally, since the majority of the major banks (tough shit Citi) passed the FED’s doomsday stress tests, I have become bullish on the US for the first time since 2008. But like Keynes said, “When the facts change, I change my mind.”

    There are definitely a lot of issues here in the States to iron out and solve. But for me that is a turning point for us. Meanwhile I think the EuroZone will only get uglier and the French bond could potentially give bears more tools to use and spread their bets thus making the situation in Bunds and BTPs look better (their goal?). However, my problem with the LTRO programs is these were not in any way involving a stress test(or other method) of determining a bank’s solvency. I mean, 800 banks take the money and you expect me to think they are all sound and solvent with a minor liquidity problem?! That’s a joke.

    And china is finally starting to realize they have to answer to the business cycle like everyone else. Record profits for their major banks? Well it comes at the cost of rising dog shit loans… I wish I worked for mr Hugh Hendry so I could have been shorting China’s situation and earning a nice bonus for it along the way :). Haha, one day.

  6. Eric Says:


    When 99% of commentators mention OIL in regards to Middle Eastern tension why don’t they refer to the region’s currencies as a good barometer on what “feet on the ground” are doing? (Like what we are doing with European 2/10s)

    For instance, I went to see how the Saudi Riyal (currency) was performing in this regional uncertainty and realized that it is still pegged to the US Dollar pretty stringently. Why doesn’t the Treasury Secretary call for a floating Riyal? Wouldn’t that allow traders to bet on Middle Eastern tension and not play games with the price of oil?

    Enjoy your holiday – I’m sure many of your readers owe you a steak dinner (if you have time for them)

  7. danny Says:

    If Cinder is correct regarding the destination of the incremental Saudi oil…it will be very interesting to see how much of the associated refined products production is exported vs. used to meet domestic demand. It would sure be irritating to the Obama administration to find out that all that new oil they procured through some back room dealings to win an election (assuming Yra is on to something) resulted in growing exports vs. an increase in supply for domestic consumption – which will result in a very limited if any statistically significant implications on domestic prices.

    This actually plays into a much bigger theme that I believe may occur going forward regarding energy: U.S. refining capacity is increasingly used to supply global demand for refined products (particularly in the face of declining U.S. demand for refined products) which will potentially result in a bullish U.S. Dollar trend (i.e. increasing exports of higher priced refined products vs. crude oil imports) which may very well be a game changer for the long crude/short USD crowd. At the very least this theme may dramatically reduce the level of inverse correlation between the USD and Crude – if this theory is proven correct.

    Additionally, until Bernanke can confidently conclude that raising interest rates will result in additional crude oil/products supply sufficient enough to drive prices down…the Fed will stay put with respect to interest rate hikes to combat inflationary pressures. Conceptually speaking, unless I am way off base, the way an interest rate hike would stem rising energy is by causing demand (e.g. the economy) to decline enough to lead the new demand level to intersect the available supply at some lower level of prices – something that seems counterproductive to the stated policy objectives of increasing employment and although Congress may not understand how this works…I think Bernanke gets it.

    Have a great vacation!


  8. Hump Day Breakfast Links | Points and Figures Says:

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