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In the world of finance, there is much mischief around profiting from wars. It has been going on since wars were financed or financiers needed a war to profit.
The interwoven story of BCCI (Bank of Credit and Commerce International) and the 1973 US Oil embargo is a masterful tale of intrigue and engineered chicanery.
BCCI was set up in 1971 by Pakistani Banker Agha Hasan Abedi. The initial investors included Bank of America, and the principal investor was Sheikh Zayed bin Sultan Al Nahyan, the ruler of Abu Dhabi in the United Arab Emirates. Over time, BCCI expanded to become the world’s 7th largest private bank, with 400 branches in 78 countries.
The 1973 Arab-Israeli War was a watershed for U.S. foreign policy toward the Middle East. It forced the Nixon administration to realize that Arab frustration over Israel’s unwillingness to withdraw from the territories it had occupied in 1967 could have significant strategic consequences for the United States. Despite a great deal of diplomatic effort to avoid conflict, on October 6th1973 Egypt and Syria attacked. The Soviets began resupplying Syria and Egypt with armaments, and the US countered by supplying Israel with weapons. It was the American military airlift in support of Israel that led directly to the Arab oil embargo.
“There is also no doubt that the idea for the oil embargo was hatched by the ruler of Abu Dhabi (then one of BCCI’s controlling shareholders) in consultation with other BCCI principals, including BCCI founder Agha Hasan Abedi. Also playing a role in implementing the oil embargo was BCCI principal Sheikh Kamal Adham (who served concurrently as chief of Saudi intelligence) and the Saudi Royal Family, which had involvement with the BCCI enterprise.”1
The embargo was planned as a punishment of the West for supporting Israel and for the warriors against Israel and the West to gain fantastic wealth in the process.
The West’s dependence on Arabian oil was crucial to the weaponization of the oil supply. According to a report that was prepared for the US DOD, the oil weapon was deployed against the U.S. economy. Just before the embargo, BCCI and its major clients took significant positions in commodity futures and equities, both long and short, that would move in their favor with the economic disruption caused by the oil embargo. In the months following the embargo, the profits from the trades by BCCI and their clients became one of the largest wealth transfers in history. Trillions flowed from the West to the East.2
The embargo and the manipulation of the oil markets caused oil prices to nearly quadruple in five years, contributed to inflation in the West, and helped to trigger stagflation that lasted well into the 1980s.
Note: BCCI and its dirty and utterly corrupt dealings led to several massive overhauls of domestic and international bank laws and processes. Most under 60 need to understand just how dangerous BCCI became. For further reading, we suggest False Profits: The Inside Story of BCCI, The World’s Most Corrupt Financial Empire, and The Outlaw Bank: A Wild Ride into the Secret Heart of BCCI.
From a Paper in Finance Research Letters: “In 2022, Russian military operations began in Ukraine, which surprised some, while others might have expected it. We investigate whether the expectations began to be priced in the equity markets before the operations. To estimate the start of information incorporation, we use the adjusted returns of 62 country-level stock market data assuming informed traders using a non-linear model and rolling-window regressions. We find that the equity markets started to price the conflict at least 50 days before the invasion, and approximately one-third of the information was incorporated on the event day.”3
Some equities impacted by sanctions include Phillip Morris, which lost 10% of their sales in Russia and Ukraine, and Pepsi, McDonald's, and Carnival, which all lost significant revenue. In total, over 1,000 companies have curtailed operations in Russia. The profits were made by oil companies, defense industries, and non-Ukrainian grain producers (Ukraine accounted for 10% of the world’s market at the time of the invasion). Also, glass and bottle makers in the region did well; Ukraine was a major producer of glassware, including bottles.
October 7th, 2023 “Research by law professors Robert Jackson Jr from New York University and Joshua Mitts of Columbia University found significant short-selling of shares leading up to the attacks that triggered the war between Israel and Hamas.
“Days before the attack, traders appeared to anticipate the events to come,” the researchers wrote, citing short-selling of an exchange-traded fund that broadly tracks the performance of the Israeli stock exchange that “suddenly, and significantly, spiked” on 2nd October.
“And just before the attack, short-selling of Israeli securities on the Tel Aviv Stock Exchange (TASE) increased dramatically,” they wrote in their 66-page report. One of the researchers told the Telegraph newspaper that it was not inconceivable that the profits from this short-selling were “above $100m”.4
Yeah, we get it. When there is a significant disruption in the world the winds of certainty and uncertainty howl. The earliest documented market manipulation the scholars of market manipulation could find was documented in the seventeenth century when the Amsterdam stock market started in 1602. The other was at the Dojima rice futures market in 1733. In 1944, the Bretton Woods agreement led to the World Trade Organization, The World Bank, and the International Monetary Fund. The idea was to address trade and currency manipulation as the world normalized after World War II and global trade began again. Eighty years later, even with modern technology and multinational regulatory bodies, it still happens.
So, what does this mean for the investor?
Wars can result in multinational economic shocks, just as an equity bubble can cause considerable economic shocks. A list of shocks I can remember includes 09/16/1992 Black Wednesday, when a collapse in the pound sterling forced Britain to withdraw from the European Exchange Rate Mechanism, the 2001-2002 Argentine economic crisis that started by un-pegging the peso from the dollar, the 2007-2008 Global Financial Crises triggered by cruddy US mortgage-backed securities, the 2011 Great Eastern Japan earthquake and tsunami, and the 2014 Russian financial crises. Even large-scale natural disasters such as hurricanes, earthquakes, floods, and draughts can cause several local and international economic shocks. International conflict is just another event that can cause an economic shock.
As of this writing, many nations are in warm conflicts that may go hot: Venezuela/Guyana, Armenia/Azerbaijan, Columbia/FARC, Mexico/Organized Crime. Libya/LNA. We also have hot conflicts that may get hotter: Israel/Iran-Lebanon et al., Moldova/Transnistria, Sudan Civil War, and any battle for the strategic choke points for shipping, including the Red Sea, Strait of Malacca, and the Strait of Hormuz.
This is an investment-based newsletter: how does one trade on instability and conflict? Research and discover what each country produces: phosphates, gold, silver, oil, molybdenum, chromite, lead, etc., and see if the suspension of their production would cause a disruption severe enough to impact world supply. The analysis must include several variables: supply/demand elasticity, the time for other suppliers to fill the supply void, and the level of demand from its nice to have, which is essential. Also, look at the impact of a perturbation in trade routes, such as we experienced during the pandemic and are currently experiencing in the Red Sea.
A recent example of a focused disruption would be the previous computer chip dearth brought about by many government reactions to COVID-19. Another current example is the Red Sea shooting war’s impact on cargo capacity. With ships choosing to avoid the Red Sea, the vessels and shipments take longer between departure and arrival; thus, shipping by sea has become more expensive. Since the dwell time of cargo on a ship has increased, the number of containers any given ship can haul in any given time period has decreased. To keep up with the demand, the world’s market needs more ships sailing, thus increasing the demand for cargo ships and pushing up the price of sea-born shipping. Investing in sea-born shipping companies carriers in November would have been a good investment. It is even better if you are a Chinese or Russian-flagged or owned vessel, as those get a free pass from the Houthis. The Russian and Chinese shipping companies can charge 80% of the round-the-Cape Horn rates and not have to go around Cape Horn! The Red Sea attacks are an excellent example of how, during a conflict, one party's pain is the other party’s gain.
As for an all-out shooting war in the Middle East, it will be a long position for suppliers such as defense contractors and a long position on oil as many of the hot wars involve significant oil-producing nations. The other side of the opportunity coin would be short the general market indices with an added particular focus for longer-term shorts on those companies impacted by the price of energy, such as trucking, airlines, farming (think fertilizers and mechanization), and mining companies. (Did you know that 78% of the cost of copper is directly tied to energy? It takes 20 million BTUs per ton of copper mined.5 A great cocktail party factoid.)
Earlier in the year, we had a nice short on Scorpio Tankers (STNG). We had recommended a short as STNG was coming off the two exceptional profitable quarters of Russia/Ukraine inflated cargo rates. It would have been nice to have reversed and bought STNG, but in time STNG and/or other shipping companies may again present a shorting opportunity.
The Red Sea attacks have reintroduced the larger profitability in shipping profits experienced at the beginning of the Russia/Ukraine war. Marine shipping will continue to do well as long as the Red Sea remains dangerous. As soon as the Red Sea is open to all traffic and there are no other choke points in shipping, threatened marine shippers will not do as well.
The trades from our insights
In the first week of February 2024, we advised our clients to take a long position on oil commodities or ETFs. The results have been good.