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Wednesday, 18 September 2019 22:28


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Houthi Drones expose Saudi Vulnerability and new market risk Houthi Drones expose Saudi Vulnerability and new market risk

President Trump said Wednesday he will tighten the economic screws on Iran, as the U.S. and Saudi Arabia begin to coordinate a response to the drone strikes on the kingdom’s oil processing facilities. US intelligence has put Iran firmly in the frame, though beyond the wreckage of crashed drones , currently there is no definitive evidence.

As a consequence oil prices extended their losses today as the market evaluates Trump's strategy of extending economic sanctions seemingly making a military response unlikely in the wake of the attacks on key Saudi Arabian oil installations last week.

Earlier today WTI futures were down at $58.12 a barrel, compared to $58.73 a barrel immediately before the Trump tweets. Dated Brent was at $63.37, down 1.7% on the day and down from $63.92 before the tweets. Oil prices had already fallen steeply on Tuesday, after Saudi Arabian Energy Minister Prince Abdulaziz bin Salman had said the kingdom expects to restore oil production levels to pre-attack levels by the end of the month.

Trump said via Twitter that he had “"just instructed the Secretary of the Treasury to substantially increase Sanctions on the country of Iran!" . Secretary of State Mike Pompeo is meeting Wednesday with Saudi leaders to discuss the Saturday drone strikes that disrupted the global oil supply. It seems unlikely that such a meeting will produce a grand plan of military action.

Saudi Arabia has adequate inventories to cover for the supply gap, but only for a few weeks. Though worryingly it has emerged that much of the country’s spare capacity may have become unusable, if only temporarily. And because Saudi Arabia accounts for the majority of the entire world’s spare capacity, the disruption would not leave a lot to fall back on. Prince Abdulaziz bin Salman has done a sterling job in allaying the fears of the oil market and convincing it that Saudi Arabia can quickly restore production.

There are however substantive issues which need to be assesed. Several days after the attack took place, it is still unclear how and what exactly struck the Abqaiq facility, or where the strike emanated . This raises the spectre of future attacks. Given the size of the processing facility it is a colossal single point of failure which amplifies supply side vulnerability. If as the Houthis would have us believe, they were responsible for the strike, they now alarmingly possess the capability to create global economic calamity. This is a risk that has been mispriced by the market and it will be interesting to see how the market reacts in the coming days as counter-measures are devised to mitigate the risk.

Some defense hawks in the U.S. want Trump to send a more forceful message. Notably Sen. Lindsey Graham, South Carolina Republican, he said Tehran might have interpreted President Trump’s decision to call off a military strike in June as a sign of weakness. President Trump who it now seems clear does not want to get embroiled in a war in the Middle East rejected that view, saying he is operating from a position of strength as the administration applies “maximum pressure” on Iran through sanctions.

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