Relations between the two major oil producers got significantly worse after Saudi Arabia executed a prominent Shia cleric. This action led to outrage in Iran a predominantly Shia country where protesters rioted and attacked the Saudi embassy. In the past 24 hours, Saudi Arabia has wholly cut diplomatic ties with Iran along with some of its closest allies like Bahrain and UAE.
The immediate response from the oil markets was a 4% jump and then a fall back on what is believed to be short covering. The situation with these markets is highly complex. Production remains high, and the oil has been in a sustained bear market for some time. A massive drop in demand from countries like China has also added weight to the oil market. The unusually warm winter in the northern US has also helped keep oil prices at bay. If this crisis continues for an extended period or gets worse, we will most likely see a rise in oil prices in spite of all of the price barriers.
Increased tensions will most likely lead to a fall in global equity markets as well. Chinese equity markets were down 7%, and the US Markets are down over 2% as well. The US Markets have their worst start in 84 years. Commodities Markets could also be impacted if the conflict continues which would also change sensitive commodity currencies like the Australian Dollar, Canadian Dollar, and New Zealand.
Expect that there will be a flurry of diplomatic activity over the next few days since it is critical for the world that these two countries avoid an escalated conflict. The question remains that if outside influences have any impact at all on both Saudi Arabia and Iran are notorious for being led by strong religious doctrine on both sides. Markets will be on edge for some time to come waiting for the next shoe to drop.