With Oil Deal, Can Normalcy Return To Correlations?

It was just a year ago that you could confidently say that the currencies of oil-producing countries marched to the tune of oil prices themselves.

But since that time, the world has been turned upside down: First the China-U.S. trade war. Then on again, off-again, on-again oil production cuts by some of the world's biggest oil producers. And then the seismic world economic slowdown brought on by COVID-19.

Correlations between these countries' currencies and oil went flying in opposite directions.

Now, with the recent agreement between Russia and Saudi Arabia to end their dispute and cut oil production, could we be heading toward more normal relationships between oil and those countries currencies?

The answer is that the agreement, while an important step in the right direction, by itself won't right the other ills hurting these countries.

It was on January 7 of this year that China confirmed that a pneumonia ravaging Wuhan was in fact a new coronavirus. That alone sent oil tumbling; it fell 35% from that date until March 6 - the last trading day before the Saudi's initiated the price war with Russia by announcing production increases. Since March 6, oil fell another 44%. It is now off 64% on the year.

Since the beginning of this year, the Russian Ruble has fallen 16% versus the dollar (Russia is the #3 oil producer in the world) and the Canadian dollar has fallen 7% (Canada is the #7 oil producer in the world)

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But because of the free-fall in oil, the correlations between these currencies and oil have gone significantly negative.

Even before COVID-19, these relationships were negative because of uncertainty (and volatility) surrounding the state of trade talks between the U.S. and China (see the attached chart that shows correlation values the day before China confirmed the existence of the virus ).

The uncertainty that COVID-19 brings to the world economic picture prevents these correlation relationships from becoming meaningful. The first signs that the world is getting back to normal is when these relationships rebuild. And those will be opportunities for investors who watch these correlation values closely.