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February 23, 2005
Oil and Dollar Relations
So, the price of crude is again on the ascendant, and, guess what? - that's right! - the dollar's falling back from its recent highs. Nothing new there. And as active market traders, don't we just love this level of volatility!
In a former (one of several) life, I worked in the petroleum industry - and there was nothing better than to see a rise in the price of crude. It meant more exploration, more drilling ... more, yes - a word we don't here too often these days ... INVESTMENT.
And all of this was great too for the then ailing UK economy, which still relies heavily upon North Sea oil revenues - a huge proportion of the price of petrol (gasoline) at the pumps is actually tax. It also meant more jobs in the (also ailing, and indeed disappearing) construction and fabrication industries. So, all in all, oil price rises, in a nation accustomed to petroleum prices at 4 times or more higher than those in the US, could be considered as, well ... beneficial (although not generally appreciated to be such by the typical consumer). But, in any event, the impact of a dollar or two ... or even 10 ... on the price per barrel was not a mega-burdon.
Clearly this is not so at the other side of the Atlantic. And, let's face it, the United Kingdom doesn't exactly have a "UK Dream" to support.
But let's take a closer look at the relation between oil and dollar prices:
Briton L Ryle, Chief Trading Strategist at Money-Flow Matrix Trader has this to say:
"Crude futures jumped back over the US$50 mark today. And as you might guess, stocks and the US dollar went lower. There are rumblings that oil exporters and Russia are converting dollars into euros and that’s pressuring the dollar. But should that have an effect on crude?
Actually, yes.
It seems that anytime oil rises, the dollar falls. If you superimpose a US dollar chart over a crude chart, you’ll clearly see the relationship. But it’s important to understand that the relationship is not casual. Like gold, oil should rise when the dollar drops.
That’s because crude oil is denominated in US dollars. Forget supply and demand dynamics for a minute. Forget China’s insatiable appetite for crude. Ignore the financial media’s fixation on weather reports for the Northeastern United States and what that means for heating oil.
The single biggest force on the price of oil is the US dollar. And that’s because the price of oil represents the real buying power of the dollar. It’s not a fixed peg that implies a benefit, such as can be found with the US trade deficit.
Since 2000, the US dollar has lost around half its value. Crude oil consistently traded below US$20 a barrel during the late 1990’s. And it wasn’t until OPEC adopted the US$22-to-US$28 price band on March 28, 2000, that crude prices got above US$20 a barrel for good.
Stocks are down today because of the appearance of that US$50-a-barrel price on the tape. But if the stock market was going to crash because of high oil prices, it would have done so already. The fact is, US GDP growth is largely immune to higher oil prices, as we’ve seen.
The US economy grew at a 3.1% rate in the fourth quarter. Crude prices ran between US$45 and US$55 during that same period. Low interest rates and rising income will keep US consumers spending enough to maintain US GDP growth at 3% to 3.5% - regardless of whether crude futures are trading for US$40 or US$50 a barrel.
Most oil analysts expect flat to lower prices for the remainder of the year. And yet nobody is willing to go on record and predict a rally for the US dollar. But, interestingly, one of the biggest dollar bears in the world over the last few years, George Soros, isn’t forecasting more declines for the US dollar. Rather, he’s linked its fate to crude prices.
Now, a guy like Soros can always be expected to talk his position. If he wants to cover a dollar short, he’ll say publicly that the dollar is going down. So in light of his apparent candor, I can only assume that Soros currently has no position in the US dollar. Maybe he’s long the euro.
There’s one thing that all the hand wringing about the dollar and oil proves - there is an abundance of fear in the market right now. This despite the fact that the economy is on pace for 3% to 3.5% growth, the forward P/E for the S&P 500 is moderate at around 20, fourth-quarter earnings were above expectations, and economic data is coming in mostly as expected."
You can find the latest data on oil and gasoline prices, presented graphically, here: Crude Oil & Gasoline Prices
As I said at the beginning - great news for traders!
Posted by Tony at February 23, 2005 02:02 PM