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Oil price surge and shakeup of the markets coming?




After spending a good amount of the last half year in risk-ON mode and good market conditions, it seems like the boat might be turning. And the turn is happening right around the Persian Gulf.


The latest geopolitical escalation in the Middle East region has added a very new factor to the table which is inflation turning higher once again, due to rising energy prices. The last 3 monthly CPI reports for the US, clearly indicate that energy has been a major component of driving CPI prints to be higher than expected (along the shelter costs and rents). Even that those surprises have been very tiny, they have non the less been enough to infuence market and FEDs comments.


Broad commodity index prices are rallying altogether lately, but oil is perhaps in the middle of it as the most important, even though oil prices have not been rallying as strong as some other commodities.


Inflation (changes) as we know is the key element driving FED policy actions, and if there were to be an event creating a surge in oil price, and therefore rise in CPI, it would impact all risk assets, such as stocks and crypto broadly.


Hierarchically:

Geopolitical actions can directly impact oil price,

oil price moves can impact CPI changes,

CPI changes directly impact FED policy changes,

and FED policy directly impacts equity and crypto prices, or many other assets for that matter.

Middle East geopololitical escalation and potential Strait of Hormuz blockade or similar sanctions leading to oil price rise



Why is the Strait of Hormuz so important? Because 20% of global oil trade is made through it. And not just that, it serves as a major geopolitical destabilizing factor for China. If any disruption around Hormuz was to happen, the relations between China and the west would likely significantly deteriorate as China supplies a lot of its oil from there.



If current events were to lead to further confrontation between Israel and Iran and let's say that this exchange keeps going for more than a month, it could eventually lead to either party obstructing the oil trade around the Persian Gulf. Now some will say "no way, no one would support this or be crazy enough to do so." It is always important to keep recent themes in check to validate if we live in crazy times where crazy things have more chances of happening than many expect:


-Was there a western-powers trade blockade on Russian resources recently implemented, resulting in a major shock for commodities by EU countries even though it directly impacted EUs economy especially Germany in major way? Yes.


-Was there a Suez Canal blockade imposed resulting in disruption of global shipping in February this year? Yes. With the presence of US navy in region the Yemeni rebels with few boats and on-shore rockets had enough power to divert large portion of major global trade. Sounds crazy but thats what went down.


Recent 2 years events are along the escalatory or economically-sabotaging in nature and shouldnt be too unusual to expect something along same theme to happen again.


Who could (be crazy enough to) block Strait of Hormuz?


Iran:

It could be possible that due to military pressures from Israel (if this tit-for-tat exchange between Israel and Iran were to continue) Iran would decide to close the strait temporarily just to create an artificial spike in oil prices, and push the western coalition into a re-thinking phase. It could be used as de-escalatory factor to place the heat on western coalition (especially NATO countries) to rethink the approach.

Western coalition:

Sanctions executed under the umbrella of a US/NATO navy presence close to the Persian Gulf could have the potential to close of Strait of Hormuz as a sort of policy implementation against Iran to de-escalate tensions between Israel / Iran.



Both of the above scenarios outlined could potentially happen if this escalation between Israel and Iran was to keep going with exchanges. Either side could cause issues going forward.

Recent history of 2 decades: Caution for any hyperbolic bearish projections

As recent two decades tell us, Israel and Iran had plenty of exchanges, most of which were more or less de-escalated soon after. Every time, the closing of the Strait of Hormuz became a discussion point. So let's keep that in mind. Why do I think that this time it is worth bringing it up as more likely than in any other prior scenarios? Because we are in a broad 4th turning cycle where proxy escalations have a higher chance of ignition.


To dig up recent history, how many times has the Strait of Hormuz and oil become a matter of hot discussion, or Iran has itself threatened to use it? Well, more than 10 times over past 40 years.





But then again, if never before happened why bring this up as a major "potential black swan"? Because of the 4th turning cycle. The risk is high enough to pay attention to it closer now than at any prior time in my view.

Risk-ON rally last 6 months was triggered by lower inflation expectations


Let's recap the November, December, January, February, and March rally in global equity markets and how potential oil price shock would play into that. The main reason why equities rallied along with crypto, is in my view that we have seen CPI indexes falling, with FED projections now signaling potential rate cuts for this year.


If we were to see a sharp rally in oil prices, as a result of actions around the Mid-East, the rate cut projections would start to adjust with less rate cuts (bearish for equities). Markets would start to price more hawkish FED policy. Which would lead to a soft or sharper selloff in equity markets and especially crypto. I believe crypto is by far a stronger candidate for large correction if the above were to happen, and we aren't talking about just a 10k dip in Bitcoin price, but much more than that. As for SPY potentially 30 points lower than the current average price.


The inflation card is in the hands of oil



To summarize again, the key is to highlight how important this is for every market participant, no matter if one is invested in crypto, trading stocks, or trading currencies. The shoulders of the last 6 months of the market rally rely on inflation to stabilize and go lower. If there was a re-surge in inflation, the rally in broad markets would be done as FED would have to put rate cuts off the table.

What is the most likely inflation ignition factor out there? Looking at the composition of CPI, there are several resources or components that could rally in price and start to uptick the CPI, but nothing is within the potential of a surprise fast rally other than oil/energy. That is about it. And it's because of current geopolitical frictions around the most important global oil-supply region that it matters so much.


We should keep in mind that, over the past 3 months CPI index was already on the soft climb. A large reason behind it was energy price increases as crude oil was rallying over the past few months. It is not out-of-the-whack to see another surge higher if the situation in the Mid-East does not de-escalate:

Chart of crude oil below:


Chart of CPI index over past year below:



Whichever the way current developments in Mid-East go, if they do not de-escalate it is likely they would lead to the point of rising oil prices globally. This is mainly because so many oil producing nations are present in the region that are showing significant political will to no longer follow the western coalition. Even without Hormuz situation it is possible to see some other oil igniting events to come into play.


To recap my prior article which highly relates to current post: Red Sea shipping mayhem - New inflation ignition event (tradethematrix.net)


Three key outlines in prior Decembers article were:

-We might see rising inflation going forward (done), CPI has been upticking consistently every month since December.

-We might see oil prices going higher as result of ME conflict (done), oil has been rallying every week since December.

-We might see shipping rates go higher due to Suez canal disruption (done), shipping rates had a sharp rally higher since December.


So far as per expected everything is lining out as per the last article, with the most obvious one shipping rates going into sharp rally ever since December:


We have as well seen oil prices rising, and CPI indexes for first time since 2023 starting to surprise to the upside consistently. All points were outlined in last geopolitical article as likely to happen. So now that we take that as taken, lets see where the path is heading forward and whether the oil becomes the global hotspot for market turmoil any time soon.

Conclusion:

The point of this short article is not to create any direct bias or expectation of what has to happen. But instead to inform the viewer of currently the one of the most important potential black swan event on the horizon for markets. If it were to happen, it would impact all markets with risk-off for multiple months in my view as inflation expectations due to rising oil prices would have to be reshaped. If you see events with follow-through you know what it means going forward. If not (over the next 1-2 months) ignore everything said in the article as a warning without any application.


Let's keep an eye on the news cycle around ME, the developments from the western coalition and Iran+regional ME countries, and whether there are any clues for the above to come to fruition. It could be that nothing happens out of all this and peace and reverting back to pre-2023 is result over the next two months, but if it does turn worse with the oil rally as a result one cant say the writing was not on the wall.

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