A soft USD often strengthens WTI, but not this time.
The U.S. dollar (USD) has lost about 5% in value against a basket of other currencies, in July. The USDX index, shown in the chart below, demonstrates the sharp decline.
In the last four years, a declining USD has been associated with rising oil prices. There is an economic reason for this. If the USD becomes cheaper, it costs more dollars to buy everything from yachts to hamburgers, to oil. Because WTI (and Brent) is denominated in USD, then a weaker USD means a barrel of oil should cost more dollars.
But the effect of the declining USD in July was not answered with higher oil prices. WTI had trouble staying away from the $40/Bbl mark.
Is the relationship between USD and WTI not holding, or is WTI priced higher than it would be if the dollar were stronger?
Below are two possible conclusions (among many) to draw from this:
- WTI price should be in the $30s, but it has been supported by a lower USD value;
- Supply-demand fundamentals are dominating the effect of the USD.
The second (2) choice is likely the truth, but the first (1) is one to consider for risk management. If the USD recovers and this recent USD weakness is merely “technical” or short-term in nature, WTI may sink as the USD support wanes.