Geopolitics, gold and the oil price

If commentators have become a little war weary like the general public that should not distract investors from the obvious and glaring conclusion that further geopolitical upsets are almost inevitably just around the corner.

This week Kind Fahd of Saudi Arabia highlighted the major problems now evident in Gaza, Lebanon and Iraq which he said might turn into a global conflagration. What certainly looks likely is that things are going to get worse before they get better in the northern Middle East.

The stand-off with Iran over its nuclear program has also not gone away. The possibility of Israel choosing to bomb Iran is still there, and the thought of Iran getting a nuclear weapon is still anathema to most US politicians. And diplomacy could suddenly be replaced by military action, particularly in the event of accidental engagements in the Gulf.

$150-200 oil

If the Straits of Hormuz was closed to oil tankers by a conflict with Iran then world oil prices would likely shoot to $150-200 a barrel. At the same time, the gold price would spike to levels way beyond its 1980 high of $850 an ounce.

Both oil and gold prices could go even higher if Nigerian militants jumped on the bandwagon and used such a crisis to press their case further; or if Venezuela decided to exact an even higher price from its US customers.

You only have to look at the current price of oil at around $70 a barrel, which compares to OPEC's price band of the early 2000s of $22-28 a barrel, to realize that supply and demand are already in a very tight situation in the oil market.

Tight oil market

Thus any geopolitical disruption would compound a finely balanced market and produce a very clearly defined price spike.

This would have immediate ramifications for global asset markets, which are currently inflated by debt in a fashion not seen since 1929, and would likely bring capital markets crashing to earth, with safe havens like gold and the US dollar gaining value.

It is true that gold and the US dollar usually move in opposite directions. But this correlation is not 100 per cent, and the time that both move together is during a financial crisis when investors have nowhere else to go and gold and silver become quasi currencies.

Perhaps we have entered a new era for global finance with hedge funds and private equity vehicles permanently lowering risk with the mobilization of vast liquidity. Or will history not repeat itself and this vast overleveraged edifice coming crashing down when the world hits its next unpredictable geopolitical roadblock?

May be it will be different this time if we have truly entered a new era. But random geopolitical events will likely be the acid test of such optimism.