Weaker dollar, lower bond yields could come to the rescue of oil bulls, analysts say
When it comes to the oil prices, market bulls are hoping Jerome Powell and his band of Federal Reserve policy makers can do what falling U.S. crude inventories and rising geopolitical tensions haven’t managed by giving crude a lasting kick higher. Indeed, despite six straight weeks of falling U.S. crude inventories and the rising danger of military conflict between the U.S. and Iran near the Strait of Hormuz, the world’s most sensitive oil choke point, West Texas Intermediate crude CLU19, +1.41%, the U.S. benchmark, is off 2.1% in July, while Brent crude BRNU19, +1.26%, the global benchmark, is down around 1%. So far this year, WTI is up 26%, while Brent has gained around 19%, bouncing back from a fourth-quarter 2018 selloff. But both have lost ground over the past 12 months by around 18% and 15%, respectively. Ritterbusch said a Fed cut — and the central bank’s communication efforts regarding the outlook for additional easing — could help turn the tide. But while a rate cut might help soothe demand-related worries about the U.S. and global economy, easier Fed policy is more likely to provide a boost for oil via a weaker U.S. dollar. The dollar often carries an inverse correlation with commodities. A weaker dollar, for instance, makes goods priced in dollars less expensive to users of other currencies while a stronger dollar has the opposite effect. The lack of a rally has left some market bulls nervous. The Organization of the Petroleum Exporting Countries and the International Energy Agency, which represents oil-consuming economies, have both lowered their forecasts for demand growth. The International Monetary Fund earlier this month cut its outlook for global economic growth and European Central Bank President Mario Draghi last week lamented a “worse and worse” outlook for the eurozone’s manufacturing sector. Ryan Fitzmaurice, energy strategist at Rabobank, also sees scope for a Fed rate cut to give crude a boost, but he’s skeptical that demand worries have been the main reason for crude’s lackluster response to seemingly bullish supply-related developments. Instead, he argued that momentum- and trend-oriented trading strategies are sending signals to short oil, which has contributed to the very low exposure to long oil positions by large money managers, as reflected in commitments-of-traders data, relative to history (see chart below). Large speculators are very long bonds, the U.S. dollar, and equities, while being mostly short the dollar. There’s room for a “buy the rumor, sell the fact” type reaction to the Fed decision on Wednesday, that could see some near-term unwinding of those positions to the benefit of oil, Fitzmaurice said, in an interview.
Meanwhile, crude still has a number of underlying positives in its favor, he said, including supply outages, Iran and Venezuela facing crippling sanctions and rising geopolitical risk.
“I think this week, with Wednesday’s decision, oil is going to be taking its cues from how the dollar reacts and how bonds react, but I think medium- to long-term you could see oil stand on its own two feet relative to the dynamics that are specific to the industry,” he said.