When this article was originally published, the Islamic State of Iraq and Syria (ISIS) had made notable advances in only a few weeks. The article reported that it had taken Mosul, Iraq’s second-largest city, and Fallujah, while attempting to seize a northern Iraqi refinery only 40 miles from Baghdad. It was also involved in Syria’s civil war and was described as growing in both strength and numbers, with substantial funding. The U.S. had limited its intervention while providing supplies and weapons. The article further reported talks with Iran about military support, despite economic sanctions imposed only months earlier. It suggested that this situation, and possible wider Middle East contagion, could become the catalyst gold and silver markets had been awaiting.
Reduced Oil Production
As Chris Martenson of Peakprosperity.com recently reported, the original article said events in Iraq could sharply cut oil output and potentially push prices above $200 per barrel. Iraq was described as one of the region’s largest producers and as having nearly offset falling output from eight of twelve OPEC members, raising production from 1.75 million barrels per day (mbd) to 3.25 mbd over nine years. ISIS control of refineries, or even the threat of it, could disrupt production and materially affect prices unless other OPEC countries increased output. Given declines elsewhere in OPEC, Saudi Arabia would likely have been asked to cover the regional shortfall. The article questioned whether it then had capacity to increase production substantially from then-current levels.
Strait of Hormuz
The original article stated that approximately 35% of world oil moved through the Strait of Hormuz, a route that could be compromised by Iran’s role in the Iraqi conflict. Martenson described a worst-case outcome involving regional contagion and conflict between Shiites in Iran and Sunnis in Saudi Arabia. That outcome could severely restrict, or stop, shipping through the Strait, only 21 miles wide at its narrowest point. Although considered unlikely, it could cripple global markets and produce a worldwide recession. The original article included the following map to illustrate the Strait’s strategic location and importance.
Correlation of Oil and Gold
The discussion to this point concerned oil prices, including reduced output and possible transport problems through the Strait of Hormuz, but the original article asked how those developments might affect gold prices. Historically, it said, gold and oil prices had shown a strong correlation. That may reflect the close relationship among many commodities, as well as recession concerns and geopolitical conflict that often accompany sharply higher oil prices. Gold and silver had historically been treated as safe havens during economic or geopolitical uncertainty. The original article included a graph showing the historical oil-and-gold relationship:
The original article considered it reasonable to expect gold prices to rise at a pace similar to oil, with silver likely following gold’s direction, as it often had. That morning, it reported that an unidentified investor had purchased half a billion dollars of gold futures. The article suggested the purchase may have anticipated substantially higher gold prices because of the Iraqi conflict, continued Ukraine-Russia fighting, or both.
Summary
In closing, the original article said ISIS efforts to control major Iraqi cities, ultimately including Baghdad, could constrain oil production and send oil prices sharply higher. It also noted that contagion between Sunni and Shiite groups could affect transportation through the Strait of Hormuz. At publication, it observed movement toward gold and silver as safe-haven investments that was lifting both markets, while cautioning that a worst-case scenario could bring both metals to new all-time highs in a relatively short period.
