Earlier today, Saudi Arabia's stock market fell sharply with the Tadawul All Share Index plunging following a Saudi state TV report that King Abdullah had been admitted to hospital for tests. As shown in the chart report, the index tumbled as much as 6% in the minutes after the Saudi Press Agency report which quoted a brief royal court statement.
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But while the ill king of the King, aged 90, is hardly news to the discounting stock market, a few more nuanced interpertation of not just what happens if and when the King passes away but what Saudi succession looks like, is much more relevant for oil - especially now that Saudi Arabia has unilaterally decided to tear apart OPEC in its push to put US shale producers out of business.
As Emad Mostaque of EC Strat, accurately observes:
Oil prices are now at levels that cause real concern on the streets of Saudi Arabia, with the prospect of succession the icing on top that has caused retail investors to take the market down another leg.
This policy may not make it through a succession period, where public support and good will is essential, particularly as it has nearly been 20 years since the last change.
The new regent could decide to keep existing policy, change it completely or anything he decides. Similarly he has free reign to realign Saudi Arabia’s foreign policy as he wishes, which is a discussion for another time and place, but could have significant regional impacts.
The full note from the source can be found below [13].
Summary: King could change, new King can do (almost) anything he wants, including changing oil policy
The Saudi market collapsed 6.5% today on Saudi Press Agency reports that King Abdullah was admitted to hospital for medical tests.
Ordinarily this shouldn’t be a big deal and is nothing new, with King Abdullah having had back surgery in 2012 and spent an extended period in convalescence in Morocco in the last year. However, having led the Kingdom for almost 19 years (as of Friday) and at the official age of 90 years old, this report raises the question of eventual succession once more.
Unlike Oman, where Sultan Qaboos has been unwell in Germany and his heir unknown, we know that King Abdullah’s heir will be Prince Salman bin Abdulaziz al Saud (79), who succeeded Prince Nayef as Crown Prince in 2012 having been Minister of Defence and Governor of Riyadh previously. Next in line is Prince Muqrin (69), the youngest of that generation of Princes, meaning a likely generational jump thereafter.
While any process of succession should be smooth with the next two leaders defined (and some strong probabilities as to who follows after), there is significant uncertainty as to what path Saudi Arabia may take going forward.
This is particularly pertinent in the case of Prince Salman, who is one of the “Sudairi Seven” brothers, children of Hassa al Sudairi and King Abdulaziz. This group, the eldest of whom was the previous King Fahd, is extremely powerful politically and economically in Saudi Arabia. This presents a contrast to King Abdullah, who had no full-brothers and has balanced various groups in Saudi Arabia with great skill.
Given the almost plenipotentiary powers of the King (see article 44 of the Basic Law), Prince Salman could realistically decide to do almost anything he wants if he deems it in the best interests of Saudi Arabia.
This includes matters of spending, where significant sums are likely to be spent on succession to ensure it goes smoothly and the social contract in Saudi Arabia is maintained and, more pertinently for global markets, on oil.
In the oil market Saudi Minister of Petroleum and Mineral Resources Ali al-Naimi has in recent weeks, with the support of King Abdullah, emphasized a shift in Saudi Arabian policy to not cut production and allow the market to determine where the oil price should go, even if it means oil falling further from here.
In our opinion, this is not another step in Saudi Arabia “flooding the market” for political reasons as a look at collapsing Saudi exports and premium seasonal differential prices shows, but rather them captalising on a scenario caused by structural factors causing the oil price to fall to try to take out significant amounts of oil investment and ensure a higher price in the future as other producers can no longer rely on a “Saudi put” to stabilize oil prices on the downside.
They have significant flexibility in their budget should they choose as we outlined here: http://www.ecstrat.com/research/balancing-budgets/ [14] and there are a number of measures they could take (eliminating subsidies, raising short-term debt for more independent monetary policy) to weather the storm and improve the economy long-term.
However, oil prices are now at levels that cause real concern on the streets of Saudi Arabia, with the prospect of succession the icing on top that has caused retail investors to take the market down another leg.
This policy may not make it through a succession period, where public support and good will is essential, particularly as it has nearly been 20 years since the last change.
The new regent could decide to keep existing policy, change it completely or anything he decides. Similarly he has free reign to realign Saudi Arabia’s foreign policy as he wishes, which is a discussion for another time and place, but could have significant regional impacts.
This uncertainty should normally increase oil prices, but instead we see them down again today, just as Libyan civil war over resource control (as discussed here: http://bit.ly/ecstrat4 [15], p 13) where production looks to be back at year lows of 200kbpd versus the 900kbpd that apparently kicked off this rout, actually saw prices fall again.
It seems that we are in a complete capitulation period now in oil, as the sharp decrease in CTFC in the last report shows and with producers scrambling to try to make up for revenue shortfalls by selling any stock they can now they feel they can no longer rely on the GCC, increasing flow to the market and keeping the curve in backwardation. Consumer demand is elastic, but not instantaneous (they don’t keep spare tankers for storage being mostly just in time), leading to a perilous period of dead space.
Given the lack of availability of credit for anything oil related unless you’re BP, this may continue for a period, but the lack of investment and potential shifts in the Middle East over the next year, coupled with the recent rise in long-dated oil back towards $80 augur for higher prices into 2016 unless we see a significant slowdown in China next year as JP expects, in which case the path will be more painful (JP sees $60 as the new normal for oil, a level he predicted a few years ago)
The Saudi Tadawul stock exchange is likely to stay under pressure, but we have previously seen intervention in the market if it falls too far, something that is likely to be repeated.
With a likely opening to foreign investors in April, the focus must be on “value” stocks above all else, with oil names providing the beta despite their curious earnings profile as unlike global energy names their feedstock is heavily subsidized, so it’s mostly a question of how much profit they will make versus swings from losses to profits.
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And then there is a different angle, one that perhaps not all is as it seems, courtesy of some tweets on the ground:
#Saudi [16] King's desert resort equipped with high-tech field-hospital. So, I think he wasn't taken to hospital for normal check-ups as reported
— Rami (@RamiAlLolah) December 31, 2014 [17]
#Saudi [16] King evacuation helicopter landed in Medical City in #Riyadh [18] few hours ago.. National & Royal guard on alert.. pic.twitter.com/O8UOhKGGA2 [19]
— Rami (@RamiAlLolah) December 31, 2014 [20]
