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What will year of the monkey bring? December 17, 2015

Posted by hslu in Economics, Election, Energy, Global Affair, Middle East, Military, Muslim, Oil, Politics, Putin.
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This question was bought to me by a friend in Dallas. My response follows:

 

What year of the Monkey will bring is something I cannot predict but I point the following out for you and everyone, including myself, to ponder:

 

  1.    Many people in the financial market disregard the geopolitical risk associated with ISIS and other terrorist groups. After all, the Syrian civil war has been going on for four years and al Qaeda, and later ISIS, has been active for many years beyond that. They treat it as a regional conflict which is self-contained in the Middle East or a conflict between Sunni and Shiite, a thousand-year ideological or religion battle no one cares about. But you might want to consider this: the US is fighting a proxy war against Russia in multiple fronts.
  1. In the Middle East, Russia decided to protect Assad and, more importantly, its own interest in the region by responding aggressively against Syrian rebels who, under American’s support, want to bring down the current Syrian government. In essence, the United States is working on its next target (Syria) of nation building which seriously affected Russia’s interest in the Middle East. Russia, or shall we say Putin, took the opportunity of a downed Russian airliner which crushed into Egypt’s Sinai desert bought down by a bomb and sent Russian troops and aircraft into Syria to fight the terrorist groups including the ISIS and Syrian rebels. On one side, we have the U.S., Turkey, Syrian rebels, Saudi Arabia and a few other Shiite countries. On the other side, we have Russia, Syria and Iran. Mixed in the middle are ISIS, al Qaeda, Turks and many other terrorist groups. Don’t forget the conflict between Israel and Palestine. It is still there. We just don’t hear as much as we used to because ISIS is taking all the headlines.
  1.    In Asia, Russia is aligned with China who is American’s primary containment target. America’s pivot to the east foreign policy is aimed to keep China at bay thereby maintains American’s influence in the Pacific region. Japan, Philippine and Vietnam are America’s partners while China is working with Russia closely in the fields of energy, commerce, technology and weaponry. Taiwan is being played by the U.S. which sells obsolete weaponry to Taiwan (Japan is allowed to buy the newest F-35 but Taiwan has been denied a request of an upgrade to F-16 C and F-16/D from its current fleets of F-16 A and F-16/B). The pending $1.83 B arms sale to Taiwan from the United States has no real impact on the balance of military power between China and Taiwan. But America’s intention is very clear. Pretty soon, Japan will send its own navy ship to the South China sea to work with American navy against China’s expansion in the region. There is currently discussion going on in the Pentagon whether to send in another air carrier into the region. But, do you think America has the financial and military capability to face so many enemies at the same time? China will set out to do what it plans to do. But I do not think China will risk a regional war with America because China will play cat and mouse with the United States but at the same time build up its own military as fast as it can to protect its own interests, primarily the flow of energy to China from the Middle East.
  1.    In Europe, America uses NATO to fight against Russia and Russia’s take-over of Crimea was Putin’s first shot against American’s aggression in the region. Of course, Europe has it own problems; recession, low growth rate, high unemployment rates, mounting deficits, high national debts, homegrown terrorists and Syrian immigrants. Greece, Italy, Spain, Portugal, Ireland and France are all in poor economic shape with youth unemployment rate remaining in double-digit levels.
  1.    In the regions of Central Asia and sub-Asian continent, Pakistan treats India as its enemy no. 1. Both countries have nuclear capabilities and probably won’t hesitate to use it against each other. The newly established Afghanistan government is not strong enough to withstand Taliban’s attack. As such, America is keeping approximately 10,000 US troops there. Central Asian countries are heavily relied upon high oil prices to keep the current government in power. With oil trading at sub $40 range, governments in these countries are in danger of uprising too. I have no doubt that Russia is doing its job to destabilize these governments, just like the American is doing the same to other countries in the world, in order to bring these countries into its fold.
  1.    Africa is in a dire situation as well. Ever since the death of Qaddafi in 2011, Libya has been a training ground of terrorists. Currently, the country has no government and a civil war between two groups, one based in Tripoli and the other one based in Tobruk, are fighting it out with no apparent winner. Oil producing countries in the region are facing civil unrest because oil price has collapsed. Others such as Sudan, South Sudan, Yemen, Congo and Somalia are all mired in civil unrest and millions have been killed or displaced. The unstable situation has been a hot bed of terrorists which feeds into ISIS and al Qaeda. It will continue to be a training and recruiting ground for many terrorist groups.
  1.    Then we have OPEC countries to deal with. I am not worried about the Middle East oil-producing countries: Saudi, Kuwait, UAE, Qatar, Iraq and Iran. Others, such as Algeria, Angola, Ecuador,  Libya, Nigeria and Venezuela, are suffering and their governments may buckle under the weight of prolonged low oil prices. The problem is not unstable government itself, the problem is their currencies will lose value against the US dollar. Bond and currency markets may not able to take the blow of defaults and bankruptcies and the snow ball effect that follows.
  1.    South America and Australia are probably the safest places in the world these days in terms of threats of terrorist attacks. But the same can’t be said about their economies. Most depends on high prices of commodities and natural resources to maintain government spending. With demand from China declining, a new equilibrium in the market places will take some time to achieve. Another problem is in the currency market. Weak economies will not able to keep their currencies pegged to the U.S. dollar. Currencies control will fail eventually and some countries will face high inflation, capital flight, reduced living standard and stagnant economic growth for a long time. If these countries have a high amount of U.S. dollar based debt and they don’t have foreign reserves to pay for them, financial crisis will happen. When financial crisis happens, citizens will suffer and countries have to adjust. All these will create uncertainties in the financial world.

Now, back to the question about what else might happen in 2016? America will elect a new president which is important to millions of people. Taiwan will have a new government. The new government will test out its relationship with China and China will likely give the new government a chance to prove itself. If things don’t work out, the situation will not be pretty. German’s Angela Merkel may not able to hold her seat until 2017. IMF in late 2106 will formally include Renminbi into the SDR basket of currencies if China continues to adapt IMF’s demand to open Chinese financial market. When it happens, trades in Renminbi will increase and China may do away with capital control which will usher in a new era in the currency market. Of course, China has to learn how to release its grip on its currency. If done badly, it might bring more instability in the near term to Chinese economies than what the government wishes.

ISIS likely will gradually fade away and hide under the weight of continuing bombing attacks from many countries. America, France and Britain will declare victory. But ISIS and other terror groups will not go away. They will find a new way to attack western world’s interests and Russia will pop up the Syria’s Assad. Iran will likely get IAEA’s approval and economic embargo will probably be lift. China will continue its progress to move people into urban centers which will create pockets of disconnect in the economy. Whether Chinese government can keep everything under control is a difficult question to answer. If the transition is smooth, we will see less turmoil in the stock, bond and currency markets. If not, we will have a roller coaster ride.

In the oil market, Saudi will not budge on keeping its oil production at a higher level. Russia will raise it oil production too probably under a secret agreement between Saudi’s Crown Prince and Putin when the two met in October 2015. Of course, Russia needs high oil production to grab market shares and to reduce the negative impacts from lower oil prices. The pressure on oil price will not go away until American shale oil producers raise the white flag and declare total defeat. This will happen in 2016 and the dream of America’s oil independence will die for now. Oil price should stay near current lows but most likely will trade within a range of $5 to $15 on the downside and $10 to $20 on the upside from the current level. This is purely a guess on my part. Geopolitical events will dominate short-term trading activities but unless the demand and supply situation reaches a natural or artificial equilibrium in the market place, oil price will not reach a stable trading range. Of course, Saudi can change its mind at anytime. But I think it is not likely.

Commodities prices will continue to drop as demands from China, Europe and Japan continue to drop. America’s economy isn’t out of the woods yet. The commodity cycle is a long way from turning over. We are only half way into the current down cycle. The upside will not come until current production capacities are cut to a minimum level and new capitals are reduced to a trickle. This is still several years away.

One bright spot for 2106 may be the defense industry. America is quickly using up all its bombs (missiles) and new supply isn’t quick enough to replenish inventory. With more ground troops deployed into the Middle East, America probably will allocate more funding just to grab ISIS’s attention away from the America home land. Many nations are building up their military budgets and arms sales should be a good business to be in.

As for another question by Shirley on whether (American) oil drillers can survive this down turn, my answer is no. Offshore drillers have more capacities on hand than contracts. Oil companies have cut their capital budgets and production capacities will decrease. But the effect on the market will not show up until decline from current fields reaches to a level when new investment is required. This will not happen for a few years; not when Saudi and Russia are pumping all they can to flood the market. Don’t forget these two countries can produce oil much, much cheaper than the cost of finding and producing new oil from the ground: offshore where water depth is 8,000 feet or deeper, shale oil where oil in the ground does not flow by itself, heavy oil where steam has to be injected to make oil mobiles. Additionally, oil faces a formidable enemy: cheap gas. Some companies probably will change their company’s make up of gas and oil composition through mergers and sales. In short, it is probably cheaper to buy oil or gas resources on the Wall Street than get it out of the ground.

 

Thanks for the information on Houston real estate market. It will happen but I do not know how bad will the damage be and I do not know how long the market will be depressed. But, I can tell you that 2016 will be worse than 2015 as more layoffs will take place in the oil patch. The guys who got laid off are still claiming unemployment benefits. They are probably still staying in the region. The ones who got laid off in the first wave may find new jobs in a different field. The ones who got laid off later, will not be able to find new employments because by that time, local economy will be negatively affected by budget cuts and lose of employments. 2016 is also a key year for the real estate markets for the greater Houston area.

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