Explaining the Rift Between Saudi Arabia & Iran; Impact on Oil

You may have noticed a flare-up of tensions in the Middle East between Saudi Arabia and Iran. The “crisis” as it’s being called by news organizations like CNN has quickly escalated with other Arab countries taking sides–most of them siding with Saudi Arabia. The flare-up initially caused an uptick in the price of oil based on fears there may be oil disruptions in the region–but those fears quickly died down and along with it, the price died down too. What is this conflict all about? And how might it affect the price of oil (and gas) in 2016? MDN reader Daniel Markind, an attorney and partner in the Philadelphia law firm Weir and Partners, provides us with an excellent summary/overview of what this conflict is about…

Daniel B. Markind, Esq.
Weir and Partners, LLP

I hope you had a Happy New Year. Just a quick note on the Mideast situation and its impact domestically for those who are not clients and do not get the full analysis.

Kuwait today became the latest Gulf Arab State to either break or suspend diplomatic relations with Iran in the wake of the execution by Saudi Arabia on Saturday of 47 people, including popular Shia Cleric Sheikh Nimr al-Nimr. The executions prompted a mob in Tehran to sack the Saudi embassy, and Saudi Arabia responded by giving Iranian diplomats 48 hours to leave the country. Saudi allies Bahrain, the United Arab Emirates and Sudan followed quickly in either breaking or curtailing relationships with Shia-dominated Iran. Now Kuwait.

Quickly, the price of oil, which has nosedived for a year, shot up, briefly trading over $38/barrel. By Monday night however, concern over a selloff in China had overwhelmed the Gulf fears and oil actually settled lower, at $37.22/barrel, down six cents. If the Middle East boils, don’t expect the price drop to continue.

The Islamic world is overwhelmingly Sunni, with a “Shia Crescent” running from Iran through much of Iraq, into parts of Syria and Lebanon. In religious practice, the two sects are very similar, but in world view they are polar opposites. Briefly, the split comes from a disputed succession to Mohammed as Caliph shortly after his death. To over-simplify, the Sunnis believe the proper person took over as leader of the faithful. The Shia believe that the descendants of Mohammed’s son in law, Ali ibn Ali Talib, had the Caliphate stolen from them. Since then, the Shia believe the entire succession of Islamic leaders and keepers of the holy places has been wrong, and they seek to correct it.

Gulf States like Saudi Arabia, home to the two holiest cities in Islam, Mecca and Medina, are majority Sunni, with a Shia minority in the East. Kuwait is almost 50/50, with the two sects historically living quite peacefully. Iraq is overwhelmingly Shia, but Saddam Hussein was Sunni and kept the country together by force or personality and blood.

Saudi Arabia has been very concerned about the rise of Iran and the Shia. This was exacerbated by the toppling of Saddam Hussein and possibly made much worse by the recent nuclear deal with Iran. There are many who believe that in pursuing its rapprochement with Iran, the Obama Administration forfeited most of its influence with Saudi Arabia. The executions by the Saudi government may be its way of clearly showing that it will not tolerate dissent, and certainly not from Shia clerics.

If this conflict spins out of control, it is likely that Iranian oil production will not come on line in world markets in a few weeks, as had been expected. In addition, Gulf oil production could be at risk. In that case, the entire world oil market will reevaluate itself. China’s slowdown will have some effect, but prices surely will rise. All of this will put tremendous pressure on the Obama Administration to allow a ramping up of shale production by facilitating further infrastructure (pipeline) development and exports. Nationally, we probably have the capacity to be self-sufficient in oil, but last year we still used more oil than we produced.

2016 always was going to be a rough ride, but it may be far bumpier and more dramatic than we thought even two weeks ago.