For those of you who would prefer to listen:
I have been dreading writing this piece all week. What happened, what is happening and what will further happen in the future makes me both sad and furious as a fellow human being on Planet Earth. Hate and anger is everywhere. The violence is simply horrific.
The death count from the attack by the Palestinian terrorist group Hamas on Israel reached 1,300 unsuspecting people. It’s been referred to as the equivalent of Israel’s 9/11. Israel has a population of 10 Million people. Losing 1,300 citizens is the equivalent of 42,000 in the United States. That’s the size of Danville, California. Now that’s perspective. Israeli Prime Minister Benjamin Netanyahu declared war on Hamas and vowed retaliation for the terrorist attacks. He warned of “a long and difficult war” ahead. It sure looks like it.
My goal this week is not to try to make sense of the events. I couldn’t possibly. It seems so senseless. My goal is to try to explain the impact on the United States and the Market and try to anticipate where things go from here. This is yet another reminder that the World is such a complex place.
Tension between Israel and Palestine is nothing new. Why this attack happened last weekend remains to be seen. A triggering point was likely Saudi Arabia’s drive to normalize relations with Israel. That got kicked into a higher gear of late. Saudi Arabia’s efforts to form diplomatic ties with Israel was a big change in the region. It represented a new tactic in the kingdom’s continuous campaign to try to manage regional instability. In exchange for normalizing relations, the Saudi Crown Prince, Mohammed bin Salman, is hoping to extract concessions for the Palestinians in the West Bank so that they can limit the turmoil. The Saudis have been concerned that Iran and Hamas were sensing the meltdown of the Palestinian Authority as an opportunity to expand their influence beyond the Gaza Strip to the West Bank.
It’s not clear that Iran was aware that the Hamas attack was coming. Senior officials from both Hamas and Hezbollah, the Lebanese militant group, told the Wall Street Journal this week that Tehran had in fact helped plan the attacks in Israel. Iran was quick to deny it. Initial intelligence reports indicate that Iran likely did not play a direct role in planning the attack, despite its long-term support of Hamas. There’s still tremendous skepticism on the subject in Washington and around the World.
The greatest risk here is a war breaking out between Israel and Iran. Even though US intelligence says there’s no evidence of Iranian involvement in last week’s attack, the White House said it holds Tehran “complicit.” Iran’s Foreign Minister warned that an Israeli ground invasion in Gaza could open up “other currents of the resistance.” He said that crimes against Palestinians would receive response from “the rest of the axis” and Israel would be responsible for the consequences.
The price of Oil rose in response to the attacks. But it was not the large move one might have thought. In fact, the $4 increase on Monday was all but erased by Thursday. It rose again Friday for a completely different reason. More on that below. The price of Oil fell as the likelihood of increased sanctions against Iran fell. That has always been a key upside risk to Oil prices. Iran is a large Oil exporter, producing nearly 4 Million barrels per day. That makes them the 8th largest in the World. The United States is the largest, producing roughly 18 Million barrels per day, followed by Saudi Arabia and Russia with 12 Million. A war between Israel and Iran would bring in many other nations. It would be beyond dangerous. The price of Oil would no doubt surge well past $100 and would likely approach $200.
This war between Israel and Hamas has naturally fueled concerns about the impact on the Middle East Oil supply. The International Energy Agency described the current conditions as “fraught with uncertainty” but said the Israel-Hamas war had not yet had a direct impact on Oil supplies. Iran has long threatened to shut down the Strait of Hormuz. What is that, you might ask? The Strait of Hormuz is a narrow channel connecting the Persian Gulf and the Gulf of Oman, which flows between Iran and the Arabian Peninsula. It is a mere 30 miles wide at its narrowest point. Why does it matter? Roughly 1/3 of the World’s Oil supplies move through that channel every day. It’s quite significant to the global energy supply.
Another wild card in the situation is how Saudi Arabia responds. The Saudis could act to stabilize energy markets and mitigate Iran’s efforts to exploit the situation to its economic advantage. Relations between the US and Saudi Arabia have been cool, but the Saudis have been working to improve relations with Israel and view Iran as a threat. The Saudis were willing to boost output early next year as part of a broader deal with Israel and to secure an expanded defense commitment from the United States. The surprise attack reduces the likelihood of Israel making any concessions to the Palestinians that the Saudi government might have sought. This new war may have put that on the backburner.
The geopolitical environment today is as bad as it’s been since World War II. China, Russia, North Korea and Iran have leaders that basically answer to nobody but themselves. Their citizens and stakeholders ultimately have a say, but only if they have the courage to band together and push back on authoritarian regimes. Dictators have successfully maintained power if they can balance fear and prosperity for the people. The ongoing war in Ukraine coupled with this new war in Israel is a major stress for stability in the World order.
The G7, Australia and the EU implemented a $60-per-barrel price cap on Russian Oil last year. It came alongside a move by the EU and UK to impose a ban on the seaborne imports of Russian crude. Price caps on Russian Oil were designed to keep global crude supplies flowing while simultaneously limiting Russia’s ability to benefit. The latter has failed. The cap was not strictly adhered to. Russia’s been cheating. Moscow took advantage of the lack of accountability, selling Oil for as much as $75 per barrel with no consequences. Bad actors gonna act bad if they can get away with it. Russia has seen revenues surge in 2023 by avoiding the caps. New sanctions announced Friday are targeting it again. That sent the price of Oil back higher towards $90 heading into the weekend.
The Middle East crisis will no doubt impact American domestic policy and politics too. The path ahead is very messy and could have impacts on a nearer-term push for more aid to Israel. The big issue in Washington is whether House Republicans can address government funding before a potential shutdown in a month. The problem: There’s still no speaker. That means there’s no action. The possibility of an American government shutdown during an international crisis is beyond dangerous. To that end, our Washington sources believe the chances have narrowed as it would be a terrible indictment on the competency for everyone in our nation’s Capital. That said, far be it from this Congress to come together for the benefit of the American people.
Our Washington sources reminded us how much the Biden administration had been hoping for an Israeli-Saudi agreement going into next year’s Presidential campaign. Hamas wanted to block such an agreement, which seems like the prime motivation for the attack. Whatever the motivations, the attacks on Israel could deprive President Biden of a key political win. The Hamas-Iran connection also causes Biden big problems after the recent release of $6 Billion to Iran in the recent hostage release deal. It’s important to point out, that was Iranian money that was frozen, not a payment made by American taxpayers. It’s a very important distinction. Regardless, that deal is being criticized for possibly facilitating Iranian support for Hamas.
The White House is expected to request additional aid for Israel, which is likely to receive broad bipartisan support. According to our sources, the Senate and the Biden administration might propose combining aid for Israel with aid for Ukraine in order to smooth the way for Ukraine funding. The latter has been met with increasing House Republican opposition. “This is the type of tactic that House Republicans rebel against, but combining aid for Israel with funding for Ukraine could put the House GOP in an awkward position.” That it could.
This might surprise you: The Market weathered the disturbing and volatile news week well, as both the Dow and S&P went into the weekend with weekly gains. It’s completely counterintuitive to see anything other than Oil spiking and stocks falling amidst these types of events. But that’s just the way of the Market; It often goes against consensus. The Market, as it usually does, shook off these geopolitical concerns and returned its focus to interest rates. It likes the prospects for an end of the Fed rate hike campaign. The Market is not emotional. Investors certainly can be. The Market is not.
Inflation is still an issue. The Market largely looked past the higher prices in September. CPI (Consumer Price Index) came in hotter than expected, showing high prices have not gone away. Sure, they’ve fallen fast from that peak 9% increase a year ago. But getting from 5% to 2% is proving much more difficult than it was to go from 9% to 5%. Inflation is still stubbornly present. The Fed rate hike campaign very well may be coming to an end. But interest rates are almost certain to stay high for quite a while. Increased energy prices definitely complicate the Federal Reserve’s work to reduce inflation. That’s what the Market cares about most.
E Pluribus Unum. Out of many, one.
Have a nice weekend. We continue to follow developments very closely. We are absolutely on guard. We’ll be back, dark and early on Monday.
Mike
