Blain’s Morning Porridge – 9^th October, 2023: Middle East Crisis – Market Implications are for further Destabilisation and Inflation.

“We won the offensive, but the press made us losers… When you are fighting a war based on politics, stuff happens.” 

Events in Israel have been shocking. Its deliberate – Iran fermenting conflict to support its goal of Arab hegemony. It puts Saudi in an impossible position – and could move it closer to Russia and thus higher oil prices. Interesting times indeed. Hard Hats close.

The cycle of Middle East violence has been reignited – markets should be extremely wary as to how this develops in coming days.

Most market commentaries will compare the Weekend’s shocking events in Israel to the Yom Kippur war of October 1973 – which triggered oil-shock and stagflation. Back then, Israel was caught unprepared and napping, yet went on to administer crushing defeats on the enemies that surrounded it. 50 years on and it looked like peace had finally broken-out as Arab nations and Israel engaged on the process of normalising relations – beginning to accept the right of all the tribes of Abraham to live in peace in the bitterly contested region.

Iran is determined that will never happen.

A more pertinent historical precedent may be North Vietnam’s Tet Offensive of January 1968 when it staged multiple high-profile attacks across the South. It looked like a suicide play – but long term precipitated the collapse of South Vietnam; by highlighting its vulnerability, the determination of the North, forced massive US reinforcement and ultimately the collapse of US domestic support for the war.

Iran, through Hamas and Hezbollah, has just played its Tet Offensive Card. The aim is similar – crush the hopes for peace in the Holy Land. It wants Arabs and the West to be bitterly divided.

Iran sent hundreds of terrorists over the border with little hope of meaningful success – except to create murder, mayhem and horror. The singular aim was to inflame and provoke a massive Israeli over-reaction. It expects to generate similar levels of outrage and support from around the Arab World as Israeli tanks stomp Gaza and The West Bank.

The Iranian goal is to fracture any chance of peace in the region and boost its long-term play for dominance in the Arab World. It’s not even really about Jews vs Arabs. Israel is little more than a convenient Casus Belli in Iran’s struggle with Saudi to lead the Arab World. That’s been the history of Sunni vs Shi’ite Islam since the Battle of Karbala in 680 – the great schism in the Moslem world just 48 years after the prophet died.

Whatever happens next in Israel/Palestine is not going to be solved short-term. The film of Israelis butchered in the street and hostages being dragged screaming into get-away cars has been brutal – sparking fury across the West. It stands alongside the ongoing anger of the Arab World at the treatment of Palestine, a factor compounded by Israeli Premier Benjamin Netanyahu being forced to pander to right-wing Jewish politics in his desperation to cling to power.

Passions and tensions will continue to rise. Neither side is particularly willing to accept the need to compromise or listen. Its deliberate – Iran has conflagurated this situation to maximise conflict between the West and the Arab World. The Palestinians who die this week have zero chance of winning “liberation” or any such nebulous concept. Iran will be delighted. They have created an opportunity to destabilise the global consensus, unravel US hegemony in the region, and realign the Arab World around a concept of Iranian anti-Westernism. (I wonder how stable Iran really is – I met Iranian businessmen during the brief engagement with Europe in the 20-teens, and was struck by how pragmatic, but corrupt they were.)

While few people will doubt the undoubted role of Iran in coordinating the supply, training and tactics of Hamas and Hezbollah, many believe Russia is coat-tailing the Iranian offensive. This morning there are well placed rumours Russia launched a massive cyber-attack on Israeli command and control nodes, and commerce/business. These attacks may emerge as a prime reason the initial response to the attacks seemed so botched by the much-vaunted Israeli self-defence forces.

If Israel prove to their own satisfaction Russia is party to the attacks, then the consensus on Syria will also breakdown, further adding to the sense of Arab World disquiet. Things could get worse if Premier Netanyahu decides to strike back aggressively – further inflaming Arab sentiment.

The ultimate aim for Russia and Iran is to put Saudi Arabia in an impossible position. Saudi will be unable to sign any agreement on recognising Israel or normalising a relationship in the face of the widespread Arab World support for Palestine. Had that happened – it would have effectively ended any chance of a Palestine state except through diplomacy.

Iran, and by extension Russia, have successfully blocked Saudi from any accommodation with Israel, therefore putting further strains on its’ relationship with the US, while reinforcing its’ alignment with Russia to push oil prices higher. A win all round for Iran and Russia?

This is effectively global economic war. It comes at a time of rising economic instability across the west (No Sh*t Sherlock):

• Many commentators believe a stock market correction is likely as stock adjust downwards to balance rising relative bond yields. That will crush sentiment and add to a recessionary outlook.
• Housing prices across the West – a sure indicator of economic sentiment – are increasingly vulnerable to diminished consumer incomes.
• Commercial property and bond market losses have hit banks hard – there are more questions being asked about the potential for a new banking crisis.
• The first signs of a renewed government bond crisis in Europe are apparent – the rise in Italian bond yields confirm Italy is not a sovereign bond issuer, but a vulnerable credit that just happens to be a country. (That doesn’t control its own money press – it is beholden to the ECB.)
• A corporate bond crisis is coming – the volume of maturing debt issued in recent years begins to rise rapidly in 2024. That debt was taken on at 1-2%, was used to buy-back stock rather than invest in new productive capacity, and will need refinanced at 6-8%, spelling massive liquidity crisis.
• Inflation is not yet beaten. The stronger that expected US jobs number, the threat of higher oil prices, and ongoing wage inflation means higher for longer is nailed on.

For the next few days… hard hats at the ready.

Five Things to Read This Morning

WSJ               Israel Works to Expel Hamas Intruders and Secure Border

Bberg             Oil Surges as Hamas’ Attack on Israel Fans Middle East Tensions

Businessweek         The Free-Money Experiment is Over

FT                   China Expert Matt Pottinger: “Even with a weak economy, Xi is feeling emboldened”

Torygraph     Why UK is on verge of a cataclysmic financial crisis

Out of time, and very much back to day job…

Bill Blain

Strategist – Shard Capital