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Why The Dollar And Oil Can Go Up Together
We’ve been talking about the quiet move in currencies, some commodities and some foreign stock markets.
Given that the dollar is looking like another (maybe big) run is in store, which means much lower euro and much lower yen (and higher German and Japanese stock markets, as we’ve discussed), what does a higher dollar mean for commodities?
Commodities have, of course, been crushed throughout this post financial crisis period. And earlier this year, oil was the most recent mass declining commodity. That was after an initial collapse in 2008, and a sharp recovery from 2009 through much of 2014. But then of course, it came crashing back to earth to revisit the deeply depressed levels of most other commodities, following OPEC refusal to cut production back in late 2014.
So, we’ve talked about the importance of oil. Cheap oil had all of the ingredients to be even more destructive to the global economy than the credit bubble burst (and housing bust). But it’s out of the danger zone now, at around $50, and the outlook is bullish, given the supply dynamics and given that OPEC is prepared to cut output for the first time in eight years.
So this begs the question: If the dollar is strengthening and may continue to strengthen, isn’t that bad for commodities? And therefore, isn’t that bad news for the oil price recovery?
The mainstream financial media usually is very quick to attribute moves in commodities to an inverse move in the dollar (and vice versa). On the surface, it’s a logical enough argument. After all, commodities like gold, oil and grains are all priced in dollars. Therefore, if the dollar weakens the value of the commodity shouldn’t be penalized. With that logic, it should strengthen to maintain its value on the global stage.
So all things remaining equal, the commodity should move in the directly proportional opposite direction of the dollar. The only problem with this argument is that all things never remain equal…
So is there a legitimate price relationship between the dollar and commodities? Or is it just market fodder to attempt to explain and justify the market activity?
That depends on the time period you look at…
For example, from December 1998 to September 2000 the relationship of oil and the dollar was positive, as shown in the chart below.
When one went up, the other went up.
On the other hand, from 2006 to 2009, the relationship has been negative. Take a look at the following chart: When oil was crashing, the dollar was rising sharply. And toward the far right of the chart, oil recovered and the dollar fell.
Of course, these are just two isolated periods of time that I’ve used here to demonstrate exact opposite relationships.
However, over longer periods the influence of the dollar on oil, or oil on the dollar, is found to have NO statistical significance. There’s not a significant positive or negative correlation. Consequently, statisticians would conclude that the dollar and oil have nothing to do with one another.
So there is no reason to believe oil can’t continue its strong recovery, and do so in an environment when the Fed is moving in the opposite directions of other major central banks, providing fuel for a much higher dollar.