July 31, 2018
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In This Newsletter
1) Interview on i24News About Attack on Saudi oil tanker in Red Sea

2) Quoted in Thomson Reuters Zawya on Sabic-Aramco deal (Zawya)
3) Attack on Saudi Oil Tanker In Red Sea Prompts Halt To Oil Shipments (
4) Growing US-Iran Tensions May Benefit Oil Market Speculators (
5) Why China's New Tax Policy Could Impact Global Oil Demand  (Forbes)
6) The Curious Case Of One Saudi Industrial Giant Buying Another (Forbes)
7) Signs Point To Trouble Ahead For Saudi Economy (Forbes)

Attack On Saudi Oil Tanker In Red Sea Prompts Halt To Oil Shipments

(also on

On Wednesday morning a Saudi oil tanker was attacked by Houthi forces in Yemen and suffered some damage as it traveled through the Bab el Mandeb Strait. The damage was minimal, but late Wednesday afternoon the Saudi oil minister announced that the Saudi tanker company, Bahri, would be suspending all oil shipments through this area of the Red Sea until further notice.

This is an extraordinary step, but one that the Saudi oil company, Aramco, considers appropriate. The company issued a statement in which it confirmed the decision in the interests "of the safety of ships and their crews and to avoid the risk of oil spill."

Back in April, however, the Saudis took a different approach. Then, Saudi Arabia reported that one of its Very Large Crude Carriers (VLCCs), which can carry over 2 million barrels of oil, was attacked by Houthi forces in the same place. After that attack, Saudi oil minister Khalid al Falih said that "The terrorist attack ... will not affect economic activity or stall oil supplies," and transportation continued to proceed as usual through the Strait. 

Later in April, Saudi Arabia claimed that Houthi forces (which many believe are backed by Iran) at the port of Hodeida were holding up 19 Saudi oil tankers. However, neutral observers disputed this claim. This latest news will make oil traders more nervous after they were already concerned about the possibility of shipments through the Persian Gulf and Strait of Hormuz being disrupted by Iran.

The Red Sea is a very important shipping lane. If there is a major disruption European powers, Egypt and the United States would all have reason to intervene. They have significant interests in protecting the freedom of the seas through the passageway. An international intervention against the Houthis may be just what Saudi Arabia wants.

Growing US-Iran Tensions May Benefit Oil Market Speculators
(also on

The war of words between the US and Iran has been escalating in recent weeks, especially since the United States announced in May that it would be reinstating economic sanctions on Iran and enforcing secondary sanctions on entities that do business with Iran.

I have previously discussed the implications on market prices that would result from removing between 1 and 2 million barrels per day of Iranian oil exports from the market here and here. Over the past month the verbal sparring between Iran and the US has increased and even included threats to the safe and free transportation of all petroleum in the Persian Gulf region.

How much of this extreme rhetoric really represents a true risk to the oil market? The answer is—very little. Iran cannot truly block the Strait of Hormuz and the US does not have the stomach to go to war with Iran. However, this rhetoric still affects the market through speculative spikes and drops.

The Strait of Hormuz is a narrowing of the Persian Gulf. Ships coming from and going to parts of Saudi Arabia, UAE, Qatar, Bahrain, Kuwait, Iraq and Iran must traverse this passage to travel between the Persian Gulf and the Indian Ocean. At its narrowest, the Strait is 21 miles across but the shipping lanes are only 2 miles wide in either direction, and Iran sits on the northern side of the Strait. Only Saudi Arabia and Iran have alternative export terminals that do not require passing through the Strait of Hormuz, but according to the EIA, about 30% of all oil exported globally by sea travels through this Strait.

Since early July, Iran has been threatening to close the Strait of Hormuz to all shipping traffic if it is not permitted to sell its oil. Iranian president Hassan Rouhani first mentioned the possibility during a trip to Europe. The commander of the Iranian Revolutionary Guard Corps (IRGC) then followed up with a statement that his forces “will make the enemy understand that either everyone can use the Strait of Hormuz or no one.” Iranian President Hassan Rouhani renewed this threat on Sunday, prompting a strongly worded tweet from President Trump on Sunday night.

The price of WTI spiked about $1 per barrel (from $68 per barrel to $69 per barrel) on Monday morning, following the verbal spat between the two leaders, before almost immediately dropping back. This is a typical market reaction to an event or non-event that will have no real impact to actual oil supplies.

For Iran to block the Strait to all marine traffic, Iran would require ships capable of standing up to the US 5th Fleet, which is stationed in Bahrain for the express purpose of protecting transit through the Persian Gulf. Although Iran maintains two naval forces, one run by the Iranian Army and the other by the IRGC, their capabilities are not sufficient to challenge the US Navy. Iran also knows that if it tried to deploy forces to bother ships or blockade the sea passage, it could be stopped with the airpower of just one US aircraft carrier.

If Iran tries to hinder maritime transportation, especially of the vital oil commodity, the US will almost definitely respond. On the other hand, there is almost no likelihood that the United States will take military action in response to only words from the Iranian regime. Public opinion in the US would rebel against committing troops to another Middle East war, and the president acknowledged and supported the reticence to fight another war in the Middle East during his campaign two years ago.

The sentiments expressed on Twitter and in the media are not indicative of an actual risk to oil supplies, but in the end that is not what matters most to the oil market. What matters most is whether market, traders and speculators perceive this rhetoric as a risk to oil supplies.

As the two sides continue to make statements and occasional bluster, we will likely see more such spikes and drops—just long enough for speculators to take advantage.

Why China's New Tax Policy Could Impact Global Oil Demand
(also on

Maybe Chinese oil demand projections are more complicated than most media are telling us.

China was a key source of demand throughout the oil price downturn. The country’s reported economic data helped convince market watchers that China would keep buying oil for consumption and for its strategic petroleum reserves. China’s small, independent refineries were permitted by the government to purchase certain quotas of crude oil on the open market. In addition to the massive amounts purchased for state-owned refineries, demand from these refineries was easy to forecast because of the biannual permit process.

Now, there are several important changes that could impact Chinese oil demand for the rest of 2018 and into 2019, and, by association, oil prices. These are issues that will not be reflected in the basic economic data China reports and may not turn up in major headlines.

The most obvious change has been an increase in crude oil prices. The price of the Brent benchmark has risen more than 5% since January 2018 and this has cut into the margins that independent Chinese refiners have been making on their products.

Next, the Chinese government recently instituted new tax rules that require independent refineries to pay a consumption tax of $38 per barrel of gasoline and $29 per barrel of diesel. This will have a serious impact on profits.

These factors have pushed many of the independent refineries in China to switch to fuel oil instead of crude oil. The refineries can make better margins processing fuel oil than crude oil because they are able to deduct the tax when they sell their refined products later.

However, there are still added costs of purchasing fuel oil instead of crude oil and this has resulted in a decrease in refinery runs in recent months. According to a survey from a Chinese consultancy, independent refiners in China operated at about 63% of their total capacity in May.

Chinese economic data may also be obscuring the challenges facing Chinese independent refineries. Official data showed that Chinese refinery runs rose 8% in June as compared to last year and increased by 1.5% from the previous month. However, the gains came from Chinese state-owned refineries and overshadowed the losses from independent refiners, according to an analysis from Reuters.

The Chinese government actually raised the crude oil import quotas for independent refineries last week, but it seems unlikely that refineries will use up their quotas in 2018. Unless China retracts its tax policy, global markets could lose an important source of crude oil demand. However, there are some creative solutions these refineries could pursue to increase their margins even with higher oil prices and higher taxes.

One avenue is to increase purchases of Iranian oil that Iran is offering at discounted prices. Chinese independent refiners were some of the first to begin purchasing cargoes of Iranian oil after the UN sanctions regime ended in 2016. Iran also targeted these refineries specifically as a way to regain customers.

Chinese state-owned refineries have long-term contracts with China’s largest oil suppliers—Saudi Arabia and Russia—but its independent refineries have helped make China the largest purchaser of Iranian oil. These refineries could try to get around U.S. sanctions by working through the single Chinese banking institution that has defied U.S. sanctions on Iran previously—the Bank of Kunlun—to purchase crude oil at significant discounts from market rates. If this avenue is successful, we could actually see an increase in the amount of Iranian oil China is purchasing as sanctions go into effect.

However, those Chinese purchases of Iranian oil may not have much impact on the global oil market for a few reasons:

  1. The refineries might not purchase from anyone else if not from Iran, so the purchases may not displace any other purchases,
  2. That oil might not go anywhere else if not to these Chinese refineries, so it is not really on the open market, and
  3. The oil would be sold at a significant discount below the global prices.

Chinese oil demand plays a significant part of global oil demand but market watchers should be aware that the basic data offered from China often does not tell the entire story.

The Curious Case Of One Saudi Industrial Giant Buying Another

(also on

Unexpected news in the energy industry broke yesterday when it was revealed that the Saudi state oil giant, Saudi Aramco, is entering into talks to buy a "strategic" stake in the Saudi petrochemical firm, Saudi Basic Industries Corp (SABIC).

Saudi Aramco already has a burgeoning petrochemicals unit of its own, but it has never competed directly with SABIC. In fact, the two companies recently entered into a deal to jointly develop a $20 billion crude to chemicals complex. Aramco has focused on developing specialty chemicals with partners DowDuPont  and Total  whereas SABIC produces commodities. It has long been suspected that the relationship between SABIC and Aramco was more intimate and that Aramco has long provided SABIC with energy and feedstock at favorable prices.

SABIC is currently the fourth largest chemicals company in the world and is listed on the Saudi stock exchange, Tadawul. Seventy percent of the company is owned by the Saudi Public Investment Fund (PIF), and it is from amongst these shares that Saudi Aramco is looking to purchase an interest.

SABIC and Saudi Aramco have coexisted as separate entities for so many years that the oil giant's sudden interest in acquiring a stake in the chemical company is curious. Saudi Aramco has been working to expand its downstream assets for over twenty years and not once has it publicly considered buying a portion of SABIC.

One possible reason to do this is because the PIF is looking for more cash. Currently, SABIC's market cap is $389 billion. The value traded on Tadawul is less than $1 billion. The PIF could sell a portion of its 70% stake in SABIC directly on the Saudi exchange, but all that would do is plummet the share price and wreak havoc on the tiny exchange.

In steps Aramco with plenty of cash and a complementary business. So, maybe what happened here is that the government (perhaps the King, the Crown Prince, the head of the PIF or even the oil minister) proposed a deal. Aramco would increase its share in the petrochemical industry and buy a stake in a profitable business right next door. The PIF would get an influx of cash for its managers and the Crown Prince to go on an investment/venture capital shopping spree and use to further their Vision2030 nation-wide economic diversification plan.

Unlike many giant corporations, Aramco is not in the habit of financing deals. It generally uses cash on hand, but in the case, depending on the size of the purchase, Aramco may need to take on some debt. However, it may also improve Aramco's position for its own initial public offering. On the other hand, there could be an argument that if Aramco infuses enough cash into the PIF with this deal, the government and the PIF may see less of a need for an Aramco IPO in the near future.

Signs Point To Trouble Ahead For Saudi Economy
(also on

Saudi Arabia is in the midst of a centralized development plan to boost its lagging economy, led by the ambitious and still popular Crown Prince Mohammad bin Salman. Now, about two years into Vision2030, we are starting to get some relevant economic news and numbers out of Saudi Arabia. Some is good, but most is not promising at all.

First, the IMF reported that it expects Saudi Arabia’s real GDP growth to increase to 1.9% in 2018. Even better, the IMF sees non-oil sectors of the Saudi economy growing by 2.3%, which is crucial for a country and economy desperately attempting to diversify for its long-term health. However, underneath these positive growth forecast numbers, lie some concerning trends that could spell trouble down the line for the Saudi economy.

The IMF reported that Saudi banks are well capitalized and liquid, but it seems that wealthy Saudis are weary of investing in Saudi Arabia. The Financial Times reported that private businesses, exactly those the government needs to invest in the diversification of Saudi Arabia’s non-oil sectors, are not investing. Instead, they are sitting on their cash or attempting to furtively move it out of the kingdom.

According to bankers interviewed by the Financial Times, wealthy Saudis and private businesses are concerned that the government is monitoring their financial transactions and are taking steps to prevent these people from moving assets out of the country. Wealthy Saudis—princes and businessmen alike—must be taking precautions in case the economic or political fortunes of the country turn for the worse . This is not unprecedented in Saudi Arabia, but the trend indicates that there may be an entire class of powerful Saudis questioning the future, or at least preparing for a worst-case scenario.

It has been more than six months since 300 prominent Saudi royals and businessmen were rounded up, accused of corruption and essentially forced to pay the government for their freedom. Many Saudis, at the time, applauded the government’s move as a long overdue attack on endemic economic and political corruption, but most honest observers took note of the extrajudicial process, lack of courts and lack of due process. This was not a straightforward crackdown as one might see in a liberal society in Europe or America.

The lasting impact of that crackdown (or purge, depending on how you see it) has been a stifling of the Saudi private sector, with many wealthy Saudis unwilling to invest domestically despite Prince Mohammad bin Salman’s centralized push for business growth. The government, under the direction of the prince, is trying to compel economic growth and diversification, primarily through the Vision2030 program. This has left the Saudi government as the major source of investment in the Saudi economy, which, ultimately, defeats the objectives of diversification and privatization. Government investment can make Saudi economic numbers look good on paper, but it is a risky strategy. When oil prices fall so does government spending (meaning government spending does not lead to diversification).

This also sends a troubling signal to foreign investors and foreign businesses considering opportunities in the kingdom. If Saudis are trying to move their money out of the country—and if the government is concerned enough to prevent them from doing so—foreign investors or companies looking to open businesses in Saudi Arabia will hesitate. Without assurances that the rule of law is respected in Saudi Arabia, foreign businesses will consider Saudi Arabia too risky to enter. Capital flight from Saudi citizens is a key indicator.

In more traditional news, Saudi Arabia’s unemployment, which was 12.8% in 2017, has actually risen to 12.9% in the first quarter of 2018. Unemployment is a persistent strain on the Saudi economy. It is not necessarily a result of too few jobs. Rather it represents a mismatch between the types of jobs available and the type of jobs that unemployed Saudis are willing to do. After years of government-funded higher education and a large foreign workforce handling manual labor, Saudi Arabia simply has too many highly educated people and too many citizens who see certain jobs as below their status. The government still employs about 70% of employed Saudis, which is a big negative for economic health.

Saudi Arabia has tried centralized economic plans before. As in the Soviet Union and China, the centralized plans in Saudi Arabia never quite worked. This plan, Vision2030, seems headed down a similar path. It may be time for Saudi Arabia to rethink the strong hand approach and try a more laissez-faire stance, trusting that the country’s past investment in education and the youth would push a healthy economy forward if the government got out of the way.

About Ellen R. Wald, Ph.D.

A consultant and columnist on geopolitics and energy markets, Ellen writes regularly for several major publications. She is the president of Transversal Consulting, a Senior Fellow at the Atlantic Council and an adjunct professor of social science at Jacksonville University where she teaches Middle East history and policy classes. 

Dr. Wald is a frequent commentator on radio and television programs. She offers discussion and analysis of contemporary energy issues, with special emphasis on the Middle East. To arrange a media appearance or to discuss her consulting services, please contact her through her website.
About "Saudi, Inc."
“Saudi, Inc.” presents the history of Saudi Arabia through the central figure of Aramco, the oil company that brought riches, success, and regional dominance to its ruling family, al Saud.  It will be released in 2018, as Saudi Aramco prepares to launch its much-anticipated IPO, expected to be the largest in history with a possible valuation of up to $2 trillion. The book debut will also come amid the Kingdom’s massive investment in its Vision2030 plan for economic diversification; the rebirth of an economic and diplomatic relationship with the U.S. worth hundreds of billions of dollars in investment in both directions; and preparation by the next generation to take leadership positions in the Kingdom – transforming society, business, and the state.
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