Saudi Arabia’s Oil Purge

On 21 November 2017, I wrote the following analysis on Saudi Arabia’s gambit to boost oil prices:

Saudi Arabia is playing a high-stakes game.

It comes down to money and power.

The country’s budget is out of control. It has grown to roughly 15% of gross domestic product, thanks to lower oil prices. To solve the problem, Saudi Arabia has been cutting subsidies for citizens on basic needs, such as electricity.

But the people aren’t happy.

Officials seem worried about a potential uprising — one which would threaten ruling royal family’s power. That’s why Saudi leaders are supporting numerous wars across the region. It’s also why they are looking at a large expansionary budget next year. One, of course, which would reduce the risk of a potential uprising.

But, given the lower oil-price environment, is that possible? If it is, where’s the cash going to come from to pay for all the spending promises and wars? And what does this have to do with crude oil’s future?

…The Kingdom raised more than US$20 billion from bond sales last September. The cash helped ease the budget shortfall.

But it wasn’t enough.

That’s why the Kingdom’s crown price arrested more than 500 citizens [in November]. Mohammad bin Salman detained some of the richest and most powerful royals and government officials.

MarketWatch reported on 7 November:

“The Saudi government is aiming to confiscate cash and other assets worth as much as $800 billion in its broadening crackdown on alleged corruption among the kingdom’s elite, according to people familiar with the matter.

“Several prominent businessmen are among those who have been arrested in the days since Saudi authorities launched the crackdown on Saturday, by detaining more than 60 princes, officials and other prominent Saudis, according to those people and others.

“The country’s central bank, the Saudi Arabian Monetary Authority, said late Tuesday that it has frozen the bank accounts of ‘persons of interest’ and said the move is ‘in response to the Attorney General’s request pending the legal cases against them.’”

There’s a lot more to the story than corruption. In fact, corruption has little to do with it. Salman saw an opportunity to consolidate power. There was also an easy US$800 billion for the taking.

The Telegraph elaborated on 25 December:

Authorities in Saudi Arabia are demanding $6 billion from Prince Al-Waleed Bin Talal, one of the richest men in the world, in return for his release after he was arrested in an anti-corruption purge last month in Riyadh.

The prince, who is the 57th richest man in the world, was one of dozens of businessmen, royals and government officials detained last month in the capital’s Ritz Carlton hotel in a move led by the country’s crown prince Mohammad Bin Salman.

Prince Al-Waleed Bin Talal refused to hand over his billions. That’s why Salman is moving him to a high-security prison, together with another 11 princes. Bloomberg politics reported on the move last week:

“No one is above the law in Saudi Arabia, everyone is equal and is treated the same as others,” Al Mojeb said. “Any person, regardless of their status or position, will be held accountable should they decide not to follow the rules and regulations of the state.”

In an era where governments are broke, we’re grateful not to be a billionaire. Nonetheless, including the country’s foreign reserves, Salman now has about US$1.2 trillion in the kitty. That should give him a few more months to figure out his next move, especially while the oil price remains high. The 32-year-old crowned price wants to turn Saudi Arabia into the next Dubai. The oil era is over — electric and hydrogen fuel cell cars are the future.

Can the Kingdom restructure the economy before the clock runs out? 

No one knows. But, with one of the world’s largest petroleum fields and about US$1.2 billion in reserves, the country urgently needs to reduce its reliance on oil. It provides three-quarters of state revenue.

The clock is ticking…

According to the International Monetary Fund, Saudi Arabia needed an oil price of US$73.10 to breakeven last year.

It didn’t happen.

To break even this year, Saudi Arabia needs oil prices to stay above US$70 per barrel.

I believe there’s an extremely low chance of oil prices staying above that level. That is, unless a major war breaks out in the Middle East, which is possible. That’s why Saudi Arabia appears to want a bigger war in the region to drive crude prices sharply higher. The oil price has surged during every major war fought in the region.

Riding the oil-price boom

The January 2001 issue of The Regional Economist noted a strong correlation between the oil price and military conflicts in the Middle East. Leading into all five major Middle Eastern military conflicts between the Second World War and 2002, the crude oil price skyrocketed. You can see this in the red columns in the table below:

The Oil Price Boom

[Click to enlarge]

And the following chart explains the big moves in the crude oil price since 1970:

Oil Price Shocks Since the 1973 Crisis

Source: Port Phillip Publishing
[Click to enlarge]

You can see that crude oil always rockets when war breaks out in the Middle East. It should be no different next time. And, while we don’t want war any more than you do, what we want doesn’t really matter.

I believe, if Saudi Arabia and Iran were to go to war, it would drive a bull market like no other. I wouldn’t rule out US$100–200 per barrel oil before 2020. Now, if that happens, you’ll want to have plenty of exposure to oil stocks.

But it might take some time before we see a full-on confrontation. As such, oil prices may have peaked for now.

Or not.

Either way, when we see a confrontation, crude oil should boom.


Jason Stevenson,
Editor, Gold Stock Trader

PS: If a major war breaks out in the Middle East, crude oil probably won’t be the only commodity to rally. Historically, war isn’t good for much, other than gold, oil and commodities. Stocks also tend to benefit in ‘politically safe’ jurisdictions, as capital flees war-torn areas. In other words, if war does break out on a more serious scale, it could be good news for ASX-listed ‘penny gold’ stocks. For more details, go here.

Jason Stevenson is Markets & Money’s resource analyst. He shares over a decade’s worth of investing and trading experience across resource stocks and commodity futures and options. He originally studied accounting and finance at Curtin University, where he was awarded a first-class honours degree. His professional background stems across high-net-worth, top tier accounting (corporate finance, tax and auditing), and sell-side equities research. Before joining the team at Markets and Money, Jason worked at boutique firms which advised fund managers and high-net-worth clients on where to invest. Whether it’s gold, crude oil, copper or an obscure metal like vanadium, you can rely on an in-depth analysis in Markets and Money. Jason also brings you extensive macro, political and geopolitical analysis from around the world. He leaves no stone unturned when it comes to telling the truth. Jason is also the lead analyst of Gold Stock Trader, a premium service for investors serious about precious metal stocks. Websites and financial e-letters Jason writes for:

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