Friday, October 26, 2007

Oil and Gold Rising, Dollar Falling (But There's No Inflation)

From the WSJ:

The dollar plunged Friday against several Asian currencies and reached a fresh all-time low against the euro, although it rose against the yen as investors sold the Japanese unit in favor of higher-yielding currencies.

"We're in an environment where we're seeing weak data from the U.S. and the market is expecting aggressive U.S. interest rate cuts," said Ian Stannard, a currency strategist at BNP Paribas in London. "That means we're going to see risk appetite back in place and we're going to see the dollar coming under continuing pressure too," he said. BNP Paribas expects the euro to reach $1.45 to $1.46 by the end of the year.

From the WSJ:

Crude-oil futures punched deeper into record territory Friday in Asia, briefly rising above $92 a barrel, and helped push spot gold prices to new multiyear highs.

With heightened tensions in the Middle East again putting supply flows at risk, and on the back of falling global crude and refined products stockpiles, expectations for a supply crunch going into the high-demand northern hemisphere winter have encouraged traders to go long and abandon bets on a price retreat.

"This week, in the wake of the latest [U.S. Department of Energy] statistics, traders are focusing on supply shortfalls in an environment of consistently growing consumption," Peter Beutel, president at trading advisory firm Cameron Hanover, said of weekly oil data released Wednesday. "It keeps coming back to one major fundamental factor: supply is running 1.8 million barrels a day behind demand."


Record oil prices helped push spot gold prices to new multiyear highs, with the rally likely to continue, traders and analysts said. Gold rose 1.5% to a new 28-year high of $778.65 a troy ounce when the London bullion market opened, before easing somewhat to $776.10 an ounce.

When political tensions build in oil regions, oil's price increases. That's a no-brainer. We have tensions on the Northern Iraq border between Turkey and the Kurds and continuing rhetoric against Iran from the Bush administration. Put those two factors together and you get higher oil prices.

However, something that doesn't get mentioned nearly enough is the inter-relationship between the dollar and oil. Because oil is priced in dollars a decrease in the dollar is a de factor price increase in oil's price. With the dollar coming under pressure from a slowing economy and more rate cut speculation in the markets, oil traders are seeing the value of their investments decrease with the dollar. Hence, they fell obliged to big up oil just to keep pace with the dollar's drop. Hence you get the following inter-relationship between the dollar and oil over the last month or so as the dollar has continued to move to record lows.

And on top of those inter-related developments, the declining dollar and increasing oil prices are stoking inflationary expectations as evidenced by gold's move through upside resistance. Also note that gold has built an incredibly strong base over the last year which could give the metal one hell of a base to move higher from.

But remember --

1.) Despite oil's continued move higher

2.) The dollar's continual move to record lows, and

3.) Golds hitting new highs

core inflation is still low, so everything is hunky dory.