This Rare Event Could Kill The Markets?

Black Swan kill markets

The concept of black swan events was popularized by the writer Nassim Nicholas Taleb in his book, “The Black Swan: The Impact Of The Highly Improbable” (Penguin, 2008). The essence of his work is that the world is severely affected by events that are rare and difficult to predict. The implications for markets and investment are compelling and need to be taken seriously.

Bank of America thinks this will be the black swan for 2016: Saudi Arabia’s currency regime is at risk of blowing up if oil prices fall further and the US dollar spikes higher. In October the foreign reserve declined by $23 billion. They are down $90 billion since February.

Should Brent crude oil prices drop to $30, BofA estimates the foreign exchange reserve drain could accelerate to $18 billion per month. With $647 billion left, there is still room. But it’s hard to imagine the markets will wait till zero before they panic.

And that is exactly what they are doing now. The 12-month riyal forward contracts – watched by experts for signs that traders are betting on a collapse of the peg – has spiked violently to 535 from just 13 points in June.

CDS Saudi Arabia

This is more than after the 9/11 attacks and it approaches the extremes from 1999. Credit default swaps are the highest since the Great Depression. The 30-year old dollar peg is one of the weakest links in the financial markets right now.

Bank of America warned that a break-down of the Saudi dollar-peg would send the riyal tumbling, with major knock-on effects. “Oil could collapse to $25.”

The best solution would be a supply cut so oil prices could rise again. Brent crude prices should rise over $50 when OPEC cuts production. This means however shale production will be viable again. This will be one of the biggest battles in history.

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Author: Travis Esquivel

Travis Esquivel is an engineer, passionate soccer player and full-time dad. He enjoys writing about innovation and technology from time to time.

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