Wednesday, May 07, 2008


For some months, the USA has accused Iran of operating terrorist training camps in Iran. Iran has denied the allegation. Last week, the USA announced that terrorist camps in Iran are in fact operated by Hezbollah. This terrorist group was originally trained by the Iranians but, since they are not Iranians, the Iranians have been technically correct about not operating the camps. The camps have been operated by people of Lebanese descent but on Iranian soil. The USA would be fully justified to bomb these camps.

Today, John Bolton, a former member of the Bush team, declared that the USA should strike Iran. The market has taken the treat seriously. Even after a bearish inventory and production report by the EIA today and on balance for the past couple of months, the price of oil rose to new all time record levels.

Mean while, China has "corrected" earlier announcements. European participants in the latest round of negotiations with Iran said that the "5+1" league decided to tighten sanctions as a result of Iran's refusal to temporarily suspend uranium enrichment. The Chinese say the agreement was to continue to use diplomatic means to solve the dispute. Of course, the Europeans view might be that tighter sanctions are a form of diplomacy relative to bombing training camps.

After the latest failure, Iran broke off its meetings with the USA in regard to solving the insurgency in Iraq. Iran has continued to discuss the matter with Iraqi officials and Iraqi officials have encouraged the Iranians to resume talks with the USA. The Iraqi administration continues to try to disarm Shiite militias in places like Sadr city.


The easy way out of tough negotiations often appears to be to to fight. If you have ever smacked a kid sister or brother, you know what I mean. In the long run, fights should be avoided right up to the point of all reason. Having said so, hanging the Sword of Damocles over an opponents head can be an effective tactic. I know it is "old school" thinking but many a school teacher avoided many a confrontation by hanging a big paddle by the cloak room door. One of my best all time teachers ever, used that big paddle on the biggest kid in the class and the rest of us paid attention. Even so, the obvious presence of a tool for action is often more powerful than the action. The massive ship and its contingents parked at the mouth of the Straight of Hormuz is the visual image needed to keep this process front and center in the minds of all parties.

For the most part, the financial media is ignoring the "Iranian problem". When the price of crude jumps, the blame is placed on the Nigerian bottleneck, a fire at a refinery (imagine that an occasional fire at plants where flammable liquids are heated to high temperatures for the purpose of separating out even more volatile components) or the demand in China. The story told is a bit like the Al Gore story about CO2 and warmer temperatures. The fact that the warmer temperatures preceded the increase in CO2 levels was conveniently overlooked by Gore and his supporters. He won a Nobel Prize for a sloppy 6th grade science project! Now what can he say when temperatures are moderating but CO2 levels are continuing to rise? His scientist supporters are revising their computer models and suggesting that temporary periods of coolness are to be expected. The point is that correlation is not the same as cause and effect.

The great increase in demand for oil in the developing nations is only partly to blame for the price of oil to be high. The actions of politicians around the world who have caused billions to be spent on non-productive alternatives is certainly a part of the reason. In any event, the recent surge has been in the face of slowing demand and increasing supplies. The short term rise appears to include the significant speculative fervor of the "animal spirits" that sometime take over markets. Oil has been bought forward at high prices for years to come by people with no plans to use any of this oil. They are buying only because they hope to sell the delivery contracts to users. When this bubble breaks, the month after month and year after year loses will be huge. Many of the speculators have hedged their bets by being long oil and short gold or some other combination of short and long commodity contracts.

There are many signs that the recent inflation surge is about to crack. The price of wheat spiked a couple of months ago before falling back hard. When Australia announced a 93% increase in plantings and when the potato crop in China was too bountiful for storage facilities, some of the "food fear" left the market. The success of ocean fish farms is also causing alarmist to rethink dire predictions. In the wild, about 2 of 300,000 yellow tail fish eggs survive to become fish. Ocean fish farms are saving 5 to 15% of these eggs. Instead of two fish, they are producing at least 15,000. The gains in production are rivaling the prior gains we saw in the production of chicken. A new supply of fresh fish is on the market. The "green revolution" that came to the rice patch some 30 to 40 years ago is coming to the fish market.

The reason the price of food and energy are left out of the Consumer Price Index is because the price of commodities go down over the very long term while making huge bounces in the shorter term. The past 6 years has seen a dramatic increase in the price of food and energy. The result has been the investment of more dollars than could have hardly been imagined. Massive tractors now run 24 hours in a day and are guided by satellite. Hundreds of miles of oil rich rocks are being hydraulically cracked along 4 mile long horizontal oil wells. A new coal fired electricity plant starts almost every single day of the year! There are 35 nuclear power plants currently under production. The five year sum of the expenditures already made to increase production and to decrease the consumption of food and energy is a trillion dollar figure, probably a multi-trillion dollar figure!

As an investor, I need to see the big picture. I do not do a good job of citing sources for what may seem to be exaggerated statements because I do not write to prove that I know anything. I write primarily to clarify my thoughts. Investing is like putting together a big jigsaw puzzle. The economic world is connected to the political world. The public perception of the world is currently about as negative as it gets. It is highly unusual for unemployment to be very low, for productivity to be very high and for people to be negative at the same time.

Iran is facing a huge amount of pressure and a huge amount of carrots. Iran is the most powerful of the Middle Eastern countries. Still, the USA and Russia have agreed to a treaty that will make nuclear fuel available to all of Iran's neighbors. In the chess game of life, the Iranian king is surrounded by multiple queens and dozens of rooks, knights and pawns. Iran keeps sneaking a few pawns into Iraq, Lebanon and Palestine but in a growing number of these cases, the USA is providing the rest of the world with pictures of these terrorist activity.

The world wants to avoid a military engagement and Iran knows that it has been surrounded. Iran is militarily squeezed between troops present in Iraq and Afghanistan and by an aircraft carrier battle group to its south. Despite what Obama has said during the political campaign, he will not cut and run if he wins the white house. He understands that to win the white house as a democrat he must first win the democrat nomination which means he must have the support of left wing groups such as I certainly do not not endorse Obama. My point is that Iran does not want to take the chance of trying to stall until after the elections. He certainly does not want to have to deal with McCain. McCain is the one who has been singing bomb, bomb, bomb; bomb bomb Iran.