December 21, 2009

US Dollar Versus Major Commodities

In case you missed it, there's been a bounce in the US Dollar - but what, if any, effect may be expected in the commodity markets?

The weekly semi-log bar charts above represent four commodities in two sectors. Left to right, top row then bottom, are ETFs / ETNs representing Gold, Silver, Crude Oil, and Natural Gas - each of whose price are plotted on the right axis. Overlaid on each chart is a line on close plot of a Bearish US Dollar ETF, whose price is plotted on the left axis. Blue vertical dashed lines denote the dates of Dollar reversals, and a blue dashed horizontal line denotes a specific price. The last Bullish and Bearish Dollar time periods are labeled as well.

Commodities are largely thought to move inversely to the US Dollar. A rising Dollar should, under this theory, give cause to a falling commodity; a falling Dollar should result in the opposite - an appreciation in commodities. In using the Bearish Dollar ETF (red line on close), we can more clearly study the relationship. During a Bullish Dollar period, the red line above falls; during Bearish Dollar periods, the red line rises. If the relationship is to hold, both the lines and the bars should rise and fall together in tandem.

In reviewing the metals markets (top row), we see that but for a flight to safety in Mar 09, the relationship generally has held. As the Dollar weakened into Jul 08, both Gold and Silver rose. While there was some divergence (lower highs) in both metals (relative to slightly lower lows in the Dollar), the precipitous rise in the greenback from Jun 08 - Dec 09 (again, represented here by a falling red line) was accompanied by declines in both metals.

While the story is similar from Jul 08 - Dec 08 in the energy sector, the performance of both Crude Oil an Natural Gas has been different on either side of this time period. Going into the Jul 08 Dollar swing low, both energy markets made higher highs - more pronounced than the modestly weaker Dollar at the time. As the Dollar resumed its decline post Mar 09 (again, rising red line), the energy market as indeed lagged. First, lower lows were made in both Crude and Natural Gas from Dec 08 - Mar 09. But what's most interesting is what has happened since.

Notice that after an initial recovery, Crude Oil has faltered in what has become a distinct trading range. Natural Gas, however, actually continued to decline even further. This makes Natural Gas perhaps the most interesting trade going into 2010. Indeed, as the Dollar has quietly reversed in the past few weeks (deemed to be a countertrend bounce), Gold, Silver and Crude have all reacted in lock step. Natural Gas has actually jumped though despite the recent strengthening in the US Dollar.

It's worth noting that modest bounces in the US Dollar have not been uncommon. The blue dashed horizontal line on each chart marries up to a former intermediate peak in Dec 08. Following that low in the Dollar, the greenback faded in Jan 08 in continuing a further six-month decline. Should that happened again, technicians should expect a rise in commodity markets - with Natural Gas best positioned to take advantage of that loss.

Jeffery E. Lay, CMT
President
Talon Eight, LLC

Disclaimer: This post is intended solely to disseminate information, and is not, and shall not be construed to constitute financial, investment or other similar advice. All posted material should be independently verified for accuracy and current applicability. Readers of this post are referred to the Risk Disclosure for further information.

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