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Week Commencing August 11, 2014

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This week we look at the following topics:•Impact of the Middle East problems on Oil supply•Saudi Arabia’s youth unemployment rate•Libya, Russia & Nigeria

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Last week we walked you through some facts and myths about the oil market. We made clear the fact that US energy production is heading in the right direction but the growth of Non-OECD nations and their per capita consumption of oil will be a major theme driving up energy prices over the next few years. If you didn’t read last week’s report, we encourage you to go back and spend a few minutes going through and checking to see our thoughts and convictions. The direct link is here.

As we write this week’s note, there is more turmoil in the Middle East. The spread of militant group ISIS (The Islamic State of Iraq and Syria) has seen mass displacement of minority groups in Iraq. France called for an emergence United Nations Security Council meeting to address the growing humanitarian crisis. It seems as though Western Governments are finding it difficult to ignore the situation in Iraq, particularly with minorities like Christians and Yazidis the targets of mass execution by ISIS. There will likely be a military and humanitarian response. This could lead to pressure on Western Governments to expand their presence in Iraq in order to maintain stability in the country’s very fragile democracy.

We don’t know what will happen here, but the greatest risk to oil markets is the expansion of ISIS and other militant groups into Saudi Arabia. The Saudi system of government is fragile, the ruling elite have so far been protected by the West over the past few decades but there is a growing sentiment among the ordinary population and huge income inequality, despite record high oil prices.

Saudi Arabia’s youth unemployment rate is officially estimated at 30% but we think the real number could be double that. Many ISIS members fighting in Iraq, Syria and now Lebanon have come from outside nations including Saudi Arabia, the Persian gulf and abroad. Saudi private wealth has been a major funding source.

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A recent article in the Financial Times highlights the problem and sense of desperation. “…Saudi Arabian officials are looking to a US online education company for help tackling the nation’s high rate of youth and female unemployment. EdX, a non-profit online education group backed by Harvard and MIT, is working with the Saudi Ministry of Labour to develop online classes to teach young people and women the skills they need to secure a job.

They need the help, said Maha Taibah, a senior official in the nation’s labour ministry. About 30 per cent of young people and women are unemployed, not counting the many who have opted out of the workforce entirely, according to the IMF.…”

The expulsion of ISIS in Iraq through Western intervention could push ISIS into Saudi Arabia and become a direct threat to the Saudi government. BP’s annual statistical review shows the importance of Saudi Arabia, Kuwait, UAE and Iran to the overall supply of global oil in the table provided below.

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The table above shows oil production in the Middle East, totalling 28.4 million barrels per day or 33% of total global production. Saudi Arabia is by far the most statistically significant in terms of production. Iraq and Syria combined are insignificant. Saudi Arabia, Kuwait and the United Arab Emirates are the largest sitting ducks for militant groups like ISIS who wish to disrupt the system of government and claim oil producing assets to fund their global expansion.

Saudi Arabia not only boasts huge unprotected boarders which can easily be infiltrated but also a largely disenfranchised social structure. On our estimates, Saudi Arabia currently derives over 45% of the country’s GDP, 80% of its budget revenue and 90% of its export earnings from oil. Kuwait is also an important region to watch, producing roughly the same amount of oil as Iraq but providing port access to the Persian Gulf where around one third of daily total global seaborn oil travels.

According to the website of Middle East Monitor on Jun 14 “A statement widely circulated in social media quoted the Kuwaiti defence minister as saying that military intervention in Iraq to conquer ISIS is likely, amidst fears that the conflict would spill over to the Kuwaiti cities adjacent to Iraqi borders…” Kuwait is a largely Shiite Muslim nation, the recent targets of Sunni ISIS militants.

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Elsewhere around the world, there is growing geopolitical unrest in regions sensitive to the production of oil, these include:

* Libya: Currently produces around 1 million barrels of oil per day, was at 1.8 million barrels back in 2006. There were hopes that a more stable government environment would drive production levels back up towards previous levels. However in Libya — particularly capital Tripoli and another major city Benghazi — the country witnessed the fiercest violence since the fall of Muammar Qadhafi. The African nation’s Parliament last week called for an immediate, unconditional ceasefire by all warring parties under United Nations supervision. With the violence escalating, several countries have evacuated their nationals from the country’s strife-torn areas.

* Nigeria: Currently produces around 2.8 million barrels of oil per day. This is larger than India, Indonesia and Malaysia combined. The country is currently facing an Ebola outbreak and the government has called for a national emergency. The Minister of Health, Onyebuchi Chukwu last week said out of six Nigerians diagnosed with the Ebola virus, one died on Tuesday while the five others were receiving treatment. Nigeria is also battling the growing threat of terrorism by Boko Haram.

* Russia: Currently the third largest global producer on a daily basis, producing around 10.7 million barrels. The geopolitical situation between Russia and the West has been well document in recent weeks but it seems as though the trade and economic situation is starting to intensify. According to ABC News “Russia will ban fruit, vegetables, meat, fish, milk and dairy imports for a year as it retaliates to sanctions imposed over the crisis in Ukraine. Australian beef and dairy producers are looking for alternative markets after Russia announced export sanctions. Australia's annual farm exports to the Russian federation are worth more than $300-400 million…”

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According to Jeremy Warner from the UK Telegraph “Collectively, these moves would represent the most profound breakdown in global trade since the oil embargoes of the 1970s. Never mind the geo-political risks implicit in what's going on, these wider threats to globalisation are being almost wholly ignored by financial markets, where misplaced complacency continues to be the order of the day…”

In summary, we don’t know when the oil market will start to respond to these combined threats but they all have the potential to spark fear among traders. The Brent crude price has come back after failing to break through US$115 per barrel – a level which we warned was a “make or break” area back in July. There is some type of stability at just over US$100 per barrel. Our views in this month’s reports are purely fundamental, they do not take into consideration technical levels which are more appropriate for those trading in the short term.

But it’s worth noting that breakouts occur on fundamental information and in terms of the oil market there is a large scope of fundamental threats to global oil supply. We spoke last week about the limitations of US oil production and the huge gap between the developed world’s consumption and that of the developing world (non-OECD nations). Watch for all these fundamental vulnerabilities as volatility in the Brent price quietens down – for now!

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Image: Daily Brent crude price as quoted on Invast MT4 platform

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We’ll touch on the renewable energy space next week and see if the facts support any threat to traditional and convention sources of energy. We will also be backing up all our analysis in the webinar mentioned below. Make sure you register as spaces are strictly limited.

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Energy outlook: Join the webinar to discuss these points

Invast Insights editor and contributing author Peter Esho will summarise the August outlook guide for energy markets in this exclusive webinar. Esho is a regular contributor on CNBC, Bloomberg and host of ‘Your Money Your Call’. In his webinar he will outline:

True or False? What’s happening in the USA energy marketHow the impact of the Middle East problems will impact oil supplyAlternative energy options, what are theyHow to trade the energy markets on Invast MT4 platform

Peter’s webinar will cover both the fundamental and technical outlook going forward plus the key drivers to look out for and is expected to fill fast. Q&A will be open straight after the webinar. Register now by CLICKING HERE.

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Go to www.invast.com.au/insights to get a complimentary 4 week trial and receive the latest insights as they are published to our live clients.

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