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Can Oil Prices Survive the Looming Fed Rate Hike?

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Crude oil and the US Dollar Index

US crude oil (DBO) (USL) (OIIL) futures contracts for April delivery fell 10.2% between March 7, 2017, and March 14, 2017. The US Dollar Index (UUP) (USDU) (UDN) fell 0.1% during that period.

In the past five trading sessions, crude oil and the US dollar moved in opposite directions in three instances. The correlation between crude oil and the US dollar in the past five trading sessions was -25.5%, which shows a mild inverse relationship between the US dollar and oil prices.

Remember, a stronger dollar makes crude oil more expensive for oil importers, which has a negative impact on prices. When the dollar strengthens, it can pressure crude oil prices.

The Fed is expected to announce its interest rate policy on March 15, 2017. The probability of the interest rate moving to 75–100 basis points is at 90.8%, and an interest rate hike could very well strengthen the dollar, which could adversely impact oil prices.

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The long-term correlation between crude and the dollar

Between September 2007 and April 2013, the one-month correlation between crude oil and the US dollar was positive in only a few instances. The correlation was largely negative during that period.

However, from April 2013 to now, crude oil and the US dollar’s one-month correlations have been more bidirectional. Between April 2013 and March 2017, the one-month correlations fluctuated between -64.0% and 43.0%.

The correlations during this period could mean that the following fundamental drivers sometimes had a greater impact on crude oil than the US dollar:

  • Saudi Arabia’s production decisions
  • US shale oil producers’ cost and production dynamics
  • OPEC (Organization of the Petroleum Exporting Countries) and non-OPEC production and supply data
  • US inventory data
  • rig count data
  • other news regarding fundamentals

To be clear, the Trump administration’s energy policy could mean increased crude oil, natural gas, and coal production in the US, but it could also have a negative impact on crude oil prices. And while fundamental factors dominate, the US dollar’s impact on crude oil prices could be limited in the long term. But global demand could still be the biggest driver of crude oil prices in the long term.

ETFs and crude oil

ETFs such as the Direxion Daily Energy Bear 3X ETF (ERY), the First Trust Energy AlphaDEX ETF (FXN), the United States Brent Oil ETF (BNO), the Direxion Daily S&P Oil & Gas Exploration & Production Bear 3x ETF (DRIP), and the United States Oil ETF (USO) are also impacted by movements in crude oil.

In the next part, we’ll look at the relationship between crude oil prices and the futures forward curve.

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