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Opportunity in Reconvergence of USD/CAD and Oil Price Correlation?

Opportunity in Reconvergence of USD/CAD and Oil Price Correlation?

2016-10-11 03:20:00
John Kicklighter, Chief Strategist

Talking Points:

  • Oil prices have extended a two week surge that started with OPEC's vow to curb their collective output
  • Russia's suggestion that it too would join the cap on supply pushed the commodity up to a 15-month high
  • The correlation between crude and USD/CAD has inverted recently - irregular occasions that eventual reconverge

See the DailyFX Analysts' 4Q forecasts for the Dollar, Euro, Pound, Equities and Gold in the DailyFX Trading Guides page.

Oil is generating one of the few paths that seems to be deviating from the general complacency infecting the broader financial system (equities, high-return, high-carry and other assets). With the Monday's extension pushing crude prices to a 15-month high close - but still short of a true technical break - we are on the verge of seeing a more dramatic bifurcation in the market's speeds. In weighing the potential for the commodity, we have to weigh the importance of its particular technical, fundamental and market condition affiliations. While it can offer some degree of pressure on the first two, it is difficult to override the third.

It is important to recognize that breaking 51.50 is not an assurance of trend. There have been many false breaks, small and large, over the past year-and-a-half. The burden of feeding a trend that can keep defeat the market's 'gravity' would be significant. What's more, if the all-market-consuming sentiment theme were to kick back in; it is more likely to generate risk aversion which would work against oil prices. The landscape is dubious when we look at this individual market in relief, but it becomes even more conflicted if we consider its prominent correlations. But, there may be just as many opportunities in the correlations.

There are economic and financial connections to energy prices. A prominent curb on US and global inflation has been the weak return of price pressures that have capped rate expectations and spurred QE if the Fed, ECB and BoJ are to be believed. More immediate in traders' crosshairs though are relationships like those with USD/RUB, USD/BRL and USD/CAD. The relationship between USD/CAD and oil in particular is a favorite among FX traders. That said, recently, we have seen the correlation (20-day rolling in our analysis) flip - and at a technically important juncture. Overtime, the relationship waxes and wanes; but it rarely deviates for long. What does that mean for commodity and exchange rate given their proximity to key technicals? We discuss that in today's Strategy Video.

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.