Prepare Portfolios To Weather Middle East Uncertainty

by: John Lindauer

Markets do not react well to uncertainty. And for several years there has been uncertainty as to if and when the United States or some other country will attack Iran's nuclear capacity. That uncertainty seems to be drawing to a conclusion. What should investors do when it happens? And thereafter?

First, there is still a very real question as to whether an attack will happen at all. Perhaps the ever tightening sanctions will cause the Iranian leadership to back off. Or, even better, motivate the Iranian leadership to allow nuclear inspectors to inspect everywhere and to everyone's great surprise find no evidence to support the current fears and uncertainty.

That is exactly what did not happen in Iraq. Saddam Hussein also blustered about having and developing secret weapons of mass destruction and certainly threatened and rocketed Israel when the West finally attacked to eliminate them.

To the amazement of many it turned out Saddam had no nuclear bomb activities underway. Had he actually allowed the media and inspectors to fully inspect Iraq to confirm that, it's likely Saddam would be in power today - but revealed to the world and the neighbors he was trying to impress as a powerless liar. Saddam pretended to the end in order to save face and died for it.

Iran may be like Iraq - a poker player trying to take a pot with an empty hand. But it's not likely. Unlike the case with Iraq, there is just too much evidence that Iran is building nukes and intends to use them. That means war is inevitable and the markets will be affected.

How the war is fought will affect the markets.

The war is already underway. Sophisticated technology attacks have slowed Iran's nuclear development and conventional attacks on a handful of the key leaders of its scientific efforts have been undertaken with guns and car bombs. And while this appears to have slowed Iran's progress it does not appear to have stopped it or changed its direction towards the peaceful uses Iran claims.

The efforts to date and the delays they have achieved have caused no great economic upheavals and have not spread a sense of uncertainty over markets worldwide. In essence, to date, markets have not been greatly affected by the escalating war between the West and Iran. That is about to change. How it will change and what it will mean for investors depends on how the war is conducted.

There are two basic possibilities

The first is that the attacks, no matter who actually does them, will be perceived as possibly being internal efforts by Iranians who seek regime change - public spirited citizens, if you will, who want to replace the current hard line government with a more moderate government so they and their children can again freely travel and study abroad and the country's economy and job market can be rid of the crippling sanctions.

If this is the approach, there will be one or two massive explosions aimed at taking out the entire Iranian leadership with the usual previously delivered Al Jazeera exclusive tape instantly explaining why they did it. If this happens the world is likely to heave a collective sigh of relief and markets will rise everywhere in the hope the nuclear threat will be terminated by the new government.

The second possibility is that one or more attacks will destroy Iran's key nuclear facilities but leave its government clerical and political leadership intact. The leadership will then, almost inevitably, attempt to placate its powerbase within the Iranian population by promising to rebuild the facilities and to retaliate against the attackers. In this case, even if the explosions are accompanied by evidence and usual taped claims on Al Jazeera suggesting they came from internal Iranian sources such as disaffected scientists or military personnel, the hard line government and its supporters likely to blame outside forces, no matter whether its true or not. If this happens without simultaneous efforts to obtain regime change the world is likely to end up being more uncertain about the future than before and markets will fall everywhere once the initial euphoria ends.

In other words, attacks on Iran will either lead to a major reduction in uncertainty which causes markets to rise and gold to fall or a major increase in uncertainty that causes markets to fall and gold to rise. Accordingly, investors should buy across the board if the leaders of the current regime are successfully attacked and sell across the board if the attacks are unsuccessful or only its nuclear facilities are attacked.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.