What Mideast Tensions Mean For the Markets (GLD, USO, SPY)

Includes: GLD, SPY, USO
by: David Andrew Taylor

Israel responded to Hezbollah's cross-border attacks into Lebanon last week, sending a few waves throughout the world. The geopolitical implications of such attacks, which included a direct attack on Beirut Airport, are quite huge, really. Iran and Syria have both responded by declaring any new attacks by Israel would be an attack on all of Islam.

Setting aside all the political aspects of this kind of move, let's focus on the financial implications.

The question really is: Will there be any kind of escalation from the attacks we are already seeing? Israel has responded to attacks from Hezbullah into Lebanon. Iran has made it clear that any new attacks on Lebanon would mean a war. Well... this is the third day of attacks. So, it's reasonable to believe that there is going to be an escalation. And, to be honest, this could get ugly.

With that, there are several prime financial instruments that are involved here: Gold, oil, bonds, and equities. Then there are the currencies.

Gold is an obvious safe haven choice during any kind of escalated conflict. For centuries, the shiny metal has been sought out as the safest place to move assets during times of crisis. The price of gold has already been moving lately. Now, sitting at almost $670.00, it's moved up about $100.00 in the past two weeks or so. This trend looks to remain in tact. Escalations would continue to push this safe haven investment higher and higher. We could easily see prices above the highs we just saw a couple of months ago.

The second item is oil. This region is the heart of oil country. Any disruption in the flows would mean higher prices, for sure. You could almost suggest that this is exactly what Iran wants.... higher prices. They benefit from this as they provide the world with a moderate percentage of its oil. In that regards, they have a lot to gain. What's really interesting about this is that Iran will likely not enter into a "real" war in the sense that their own troops are not likely to be involved. Instead, this situation could escalate into an insurgent type of war. The response would be jet fighters from Israel bombing key targets in Iran. What would be a key target? Oil. Iran's main source of income from the rest of the world. This could get ugly.

Next is the bond market. Bonds are always a safe haven, flight to quality kind of investment. Prices will be bid up, as they have been the past several days. Here's the chart on the 10-year yield level:

Keep in mind, this is the yield chart, not the price. They are inverted from each other. There are two factors affecting the yield in bonds: a softening Federal Reserve, and a flight to quality. Interest rates will continue to move lower. As assets move into bonds, the price rises, sending rates lower. For the economy here in the U.S., this comes at a time when consumers are spending less and less derived from smaller and smaller incomes offering a short-term break. This is coming at a time when the Fed is looking to finish up what they have started. This in turn could undo what the Fed has been doing. The Fed will likely need to push rates higher in response. Then, you get a higher burden on the consumers and businesses. This could get ugly.

Next are equities. Markets around the world are selling off. The S&P 500 is down 40 points in three days. This is the immediate reaction. There could be a softening in this pace as the markets start to digest the global factors and focus more on earnings. But, earnings have not exactly been stellar this season so far. Certainly there isn't enough there to push prices up higher. This could get ugly.

Last is the currency markets. The first and foremost will be the Swiss Franc. This is the safe-haven currency of choice for the world during any conflict. If aliens were to invade this planet, they would leave Switzerland alone so that they could have a banking system. Swissy will move higher against every currency. This could be short-term however. There's no guarantee that the currency will enjoy a prolonged response from the moves. What you are likely to see are short-term moves, then rationalization as to how this will really affect the global markets. The big picture depends more upon how "big" the escalation gets. For now, the movements have been muted, and that doesn't seem logical. In fact there's been a move into the dollar. I'm scratching my head a little on this one.

From there, the Canadian dollar is certainly poised to do well. They sell a tremendous amount of oil to the U.S. They also have their hand in the gold market. Look for the Canadian to move higher. Australia is the other currency that is likely to do well with gold being a commodity that they produce in large amounts. The Australian dollar will likely rise against other currencies.

As for the U.S. dollar, Bush may have started pulling out the nail jar and the hammer with his comments to the Lebanese Prime Minister that a country has a right to protect itself. This may have been Bush's way of saying that the U.S. doesn't plan on stepping in to stop Israel, but instead is backing them up. If you think about this, Bush just gave the go ahead for Lebanon to attack back. After all, a country has a right to defend itself. This could get ugly.

In all, even though there may be an immediate ending to the attacks by Israel, this is hardly the ending of this situation. Thinks suicide bombers, and then counter strikes.

This could get ugly.