World War III - Coming to a Planet Near You

Editor's Note:  Costas is putting the finishing touches on his new Profit Skimmer service, and his article for this week will be seen in tomorrow's edition of The Tycoon Report.

 

Tensions continue to rise in the Middle East, driven by Iranian intentions to continue its uranium enrichment program despite new sanctions from Canada, the European Union, and the U.S.  An escalation of tensions to military conflict could easily result in a spike in oil prices, a third U.S. foreign war, and possibly "the nuclear option."

What does this mean to us as investors?

Certainly it could be an opportunity to profit from a run up in oil by getting long the commodity itself, an oil ETF, or options on either, but it is also another slap in the face for the fledgling economic “recovery,” and that means potential downside for U.S. equities.

Amazingly, this is more of a second or third-tier story for mainstream media, so a brief review of the situation is in order ...

How did we get here?

This whole situation exists because Iran will not comply with a full inspection by the International Atomic Energy Agency (IAEA).  If Iran is truly engaged in nuclear research and uranium enrichment for the purpose of civilian power production, why would they object so strenuously to full inspections?  Internationally, no one could object to that; it might be uncomfortable, but you can’t really object to a country pursuing alternative energy.

The problem here is that no one really knows how far along the Iranians are when it comes to uranium enrichment.  Reports regarding Iran’s capability to create weapons grade material range from 6 months to 2 years.  Weapons grade uranium requires enrichment to the 90% plus level.  Power generation can be accomplished with uranium enriched to the 3-20% range (not exactly certain of the level, as I am not a nuclear scientist, but it is well below weapons grade).

We know from an agreement made with Turkey in June that the Iranians have plenty of the lower level stuff.  In fact, the agreement allowed for Iran to exchange 1,200 Kg of 3.5% enriched uranium for 120 Kg of 20% enriched over a year’s time, ostensibly for medical research.  This certainly seems to suggest that Iran is exaggerating their enrichment capabilities since they need to trade for even 20% enrichment.

Or it could just have been a decoy.  Still, 20% is a long way from 90%.  By the way, this deal is likely to fall by the wayside given the new sanctions.

So, in the meantime, Iran is playing an incredibly dangerous game of chicken.

Sanctions

The United Nations has already imposed sanctions on Iran, but on Monday, a new round of economic sanctions emerged targeting the Iranian oil and gas sector, the transfers of funds, insurance, as well as air and sea shipping.  There were also a number of visa restrictions for high ranking members of the Iranian government as well as the Islamic Revolution Guard Corps (IRGC). 

Prior sanctions have had little effect and, according to Iranian President Ahmadinejad, the country will be able to withstand the new sanctions as well.  Of course you can’t really believe anything he says, since both countries and companies have been curtailing relations with the Islamic Republic.  In fact, Iranian cargo ships have been unable to secure insurance for more than a month.

Military Action

While sanctions may have a real economic impact on Iran, no one believes they will deter Iran from its pursuits, including CIA chief Leon Panetta, which he acknowledged in an ABC interview over the weekend.  Sanctions never really work unless there are repercussions beyond the economic, i.e. military action. 

To that end, the U.S. moved a number of war ships, including the aircraft carrier the USS Harry Truman, through the Suez Canal about a month ago.  Not only was this the largest military flotilla ever to move through the canal (Egypt actually closed it temporarily to fishing and commercial shipping), but it is rumored to have included 1 to 3 nuclear Israeli submarines.  These subs have no defensive value, only first strike nuclear capabilities. 

Yikes!

So the U.S. now has 2 combat ready carriers in the region and unconfirmed reports of an offensive Israeli Navy presence.  Additionally, there is an American Troop presence in eleven countries surrounding Iran (see map below).  This puts us in great shape.  We can bomb their nuclear sites into oblivion and, if that doesn’t work, invade from all sides in this giant game of Risk.
 

Not quite.  This is no game.

Lebanon (in the form of Hezzbolah), Syria, and Iran have all seriously upgraded the size of their weapons cache and the technology of that cache.  Sure, they still have a ton of inaccurate scud missiles, but they also have a large number of newer and much more accurate surface-to-air missiles, as well as medium range ballistic missiles, mostly truck mounted, making them hard to nail down.  This is not the same group of angry Muslims that inhabited the region seven short years ago when we invaded Iraq.

Also, this isn’t just about the West vs. the Mid-East.  A diplomat from the United Arab Emirates (UAE) recently stated that the country would rather suffer the economic disruption of bombing Iran now than allow Iran to have a nuclear weapon.  Reports from both Saudi Arabia and the UAE indicate that not only have both countries approved Israeli use of their airspace for bombing runs to Iran, but that there are actually Israeli troops on the ground in both nations.  This is truly unheard of and speaks to the direness of the situation.

OK, back to bombing the nuclear sites.

Complicating this strategy is the fact that there are still Russian and Chinese civilians and scientists working there.  I can’t even imagine the global impact if we throw a pissed off Russia and China into the mix.  So I won’t.  Let’s stick with the Mid-East players.

Unsurprisingly, Iran has vowed retaliation if attacked, but can they really do anything?

Sadly, the answer is yes.

A coordinated missile attack from Lebanon and Iran, with their new weapons, could overwhelm Israel’s missile defense systems.  The likely target of this attack would be the Israeli airfields in northern Israel, and it has the potential to do enough damage, along with better SAMs, to neutralize an Israeli air threat, leaving Netanyahu with nothing but the nuclear options (remember the subs?).

Also, if you look back at the map, I circled the Strait of Hormuz.  40% of the world’s oil supply moves through this narrow body of water.  As you can see, Iran can easily shut this critical artery down whether or not they choose to strike Israel.  Not only does that mean that oil prices would literally go to the moon, but the impact on the global economy, unable to obtain a critical resource, would be devastating. 

The amazing thing is that in researching this article, I found very little information in the western press.  Instead, much of the details were found in Middle Eastern, Chinese, African, and Israeli news outlets and I have barely scratched the surface on the complexities and dangers of the situation.  This I do not understand.

Hopefully none of this will come to pass and, when tensions have died down, all the participants will be sitting around the hookah enjoying a good laugh, but reality tends not to be so kind. 

Iran has agreed to continue talks regarding its enrichment programs in September, after Ramadan, which begins in early August, so there is at least the potential for the delay of Armageddon.  Nonetheless, I urge you to dig far and deep for information, as this is not a situation that will go quietly into the great good night.

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