Oil surges to $71 on OPEC meeting, weaker dollar

By Money Matters Editors


It didn’t take much to reverse the trend in oil prices.

One weekend after crude slide below $70 amid renewed talk of a glut of supply, oil reversed and raced ahead $3.08 to close at $71.08 per barrel Tuesday.

Tuesday’s culprit? The weaker dollar and the belief that OPEC, which meets this week in Vienna, will maintain current oil production quotas.

Institutional investors view current production quotas as bullish for oil, as they have already discounted rising demand on the U.S./global economic recoveries, and rising demand amid unchanged production sends oil in a vertical direction.



The dollar drives oil higher, again

As noted, the weaker dollar played a role as well, with chatter in currency trader circles arguing that the dollar may end up bearing the brunt of the Obama administration's effort to stabilize the financial system and jump-start the economy. Traders say: 1) there’s little room to increase an already large U.S. budget deficit - hence that leaves out fiscal policy; 2) a tax increase in not likely to close the deficit; and 3) that leaves monetary policy - including the U.S. Federal Reserve’s quantitative easing - to bear the bulk of the stimulus work. Traders say if the Fed withdraws its quantitative easing over time, that will support the dollar, but until the Fed does, traders will assume more dollars are in circulation, and they'll drive the dollar lower, accordingly. Moreover, because oil is priced in dollars, crude tends to rise when the dollar falls; some institutional investors also buy oil as an inflation hedge, and as an asset play when stock markets are sluggish.

Meanwhile, the oil bears still argue that oil will head lower, due to plentiful supplies. One has to admire the persistence and bravery of the oil bears, if not their bottom line. The fundamentals certainly show inventories in the U.S. at 3-year highs, but more than one oil trader has lost his or her shirt shorting oil. Oil remains a market that’s disconnected from supply and demand fundamentals, which is why one should be careful before taking any investing position that assumes a lower oil price in the year ahead.