Report by Trevor Greetham, Asset Allocation Director of Fidelity, which reflects on the Arab riots as a whole and how they are affecting the oil price hike.

The protests have spread democratic Middle East and North Africa and led to changes of government in Tunisia and Egypt as well as an unresolved conflict in Libya. Despite the efforts of Middle Eastern governments to stem the tide, the strength of this “Arab Spring” remains intact and generates strong protests in Syria, Bahrain and Yemen, where authorities have used force to quell the unrest. Given the important status producer in the region, some investors fear could suffer as the oil crisis of the 70. However, it is unlikely to occur. Until now, the world’s oil supply has barely been affected. However, while uncertainty persists could continue to see high prices.


So things are

The growing unrest in the Middle East. In Syria, at least 44 people have died in Deraa, south of the country, after the Baath Party government to use force against the population. In Yemen, protesters have taken control of a town near the Saudi border and the White House said it was preparing the camber of the regime, as the government of Ali Abdullah Saleh can barely contain a national movement that calls for its resignation. In Bahrain, where the ruling family is Sunni minority, the majority Shiite protesters planning more marches despite the tight security in the country.

The oil price remains high despite OPEC (especially Saudi Arabia) has increased production to compensate for the lack of supply in Libya. This situation reflects the widespread fear in the market that may have more supply problems worsen if protests and spread over the region.

What is driving oil prices?

While Libya was the first important oil producer which was strongly affected by the wave of democratic movements in North Africa and the Middle East, the country is among the largest. Its 2% of world production it ranks among the top 19 oil producing countries in 2010.

The fact that we see an escalation of protests in the Gulf countries and Yemen, Bahrain and Syria means that the volatility premium in the price of oil remains. Syria means only 0.5% of world production and 0.4% Yemen, but the geographical aspects are important. The real fear remains that the major Middle Eastern producers such as Saudi Arabia, get caught in this spiral of democracy protests that continues to surprise many observers by its intensity and its ability to cross borders.

Middle East accounts for about 30% of world production, but this does not reflect its strategic importance due to the production quotas of OPEC. The region has more than 80% of global proven reserves and only Saudi Arabia treasures in his basement for nearly 20% of the world’s oil deposits.

How far will the Arab spring?

The fact that the protests continue in Yemen and Syria casts a long shadow across the Middle East. Certainly, the possibility that the protests spread to key oil-producing countries like Saudi Arabia can not be excluded.

The country is not immune to popular protests and uprising in Yemen and Bahrain’s Shiite community has sparked concern in the ruling elite. Unemployment in the country remains above 10% and much of it is youth unemployment. King Abdullah has already announced a program of economic support measures valued at 36,000 million dollars in order to appease and encourage the most disadvantaged sectors of the economy related to petroleum. The measures include a salary increase for civil servants, pardons for imprisoned debtors and financial aid for students and the unemployed. The fact that these concessions are made illustrates the seriousness with which Arab governments are taking these threats to his rule.

Economic implications of rising oil espirial

Though the rulers of Tunisia and Egypt were ousted just days after promising to resist, the conflict in Libya could become entrenched. In Yemen and Syria protests have intensified lately and it is worth noting that the U.S. State Department has already asked the leaders of both countries to abandon power. We may be witnessing a turning point in the region, after the company has dared to express the discontent that had long harbored against the ruling elites.

If there are major events in key oil producing countries like Saudi Arabia that do suggest a change of regime, it might be possible to produce a seizure in prices as in 1970. History shows that the upward spiral in oil prices tend to have a harmful effect stagflation in the global economy. Societe Generale analysts estimate that for every $ 20 you raise the price of a barrel of oil from current levels, the GDP of the world economy would lose 1%.

Historical comparisons

Each upswing in oil is different, but the previous climbing in 2008 allowed us to know the pain threshold of the global economy on oil prices. During this episode, oil prices remained above $ 100 for several months prior highs at $ 145 in July 2008. The global economy entered a deep recession less than six months later, although the impact of oil is difficult to isolate from the credit crunch then hovered over the financial system.

The escalation of oil prices in 2008 was motivated primarily by economic factors such as the booming demand from China. Current events belong to the realm of geopolitical crisis. How would China react to an escalation in prices? The experience of the 70 shows that geopolitical crises tend to be more chaotic, and that speculation and panic worsening an already bad situation. Prices tend to skyrocket.

An important factor is complicating the situation is that the prices of other commodities also are fired. The prices of metals and natural resources are flirting with previous highs, but what most concerns are food, as their prices have recently surpassed their 2008 highs as the composite price index of food from the UN, who scored February, the highest since it was first calculated in 1990.

This situation, which impacts most severely on the poorest segments of society, are spurring social unrest we are seeing today and are leading to a dangerous combination of drivers of prices in the short term.

The implications for investment

Attention to a possible upward spiral of oil is justified, but for the moment remains unlikely. The consensus view states that more moderate increases experienced to date by the oil price will not be enough to derail the global economy and oil supply will not be affected significantly. The major oil producing countries in the Middle East have not yet experienced the intensity of popular revolts in other countries. He also noted that even if we see changes of regime in the Gulf countries, this need not affect oil supplies, since the new government would strive to protect a resource that is of vital national importance. However, uncertainty persists as to be expected that oil prices maintain a bullish bias.

There are several implications of more costly oil for investment. Since oil exerts more inflationary pressures in the economy at a time when inflation is rising, investors should consider protecting their portfolios by investing in bonds linked to inflation. Also be expected to behave well gold as a haven in an uncertain world. In the short term, we could see how it is manifested intolerance to risk in equities extending the best relative performance of developed markets versus emerging markets.

Energy is probably the biggest beneficiary, though short-term effects could be mixed if companies are forced to suspend operations, as has happened in Libya. Manufacturers of equipment for the oil sector as Transocean have shown great sensitivity to oil price developments and could also be an attractive bet. Russia could be a major benefit given the great weight of their values ​​in the energy sector, such as Gazprom and Rosneft. These companies also have a low level of involvement in the Middle East compared with their global competitors.

On the other hand, shipping companies and railroads also tend to benefit, while airline and automotive industries are often adversely affected, with consumer discretionary values. Historically, consumer staples sectors, telecommunications, health and public services have performed well from a relative point of view due to their nature less cyclical and defensive traits of their benefits.

Ultimately, investors should ensure that they have a diversified portfolio, ideally one that includes protection against inflation and exposure to energy and other real assets with pricing power.

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