You have probably noticed that news about oil has been dominating the market throughout 2019.
So I’ll use this opportunity to explain about the highly influential and historically rich relationship between different markets.
During the Nixon led regime in 1974, the U.S. Government entered into a series of bilateral agreements with the largest exporter of Oil – Saudi Arabia.
The U.S. economy was largely built around the need and use of Oil, so these arrangements had a series of profound benefits for the USD.
USD became known as the petrodollar because:
This arrangement sounds simple, but it was actually quite complex.
Because these agreements included the U.S. offering military protection for Saudi Arabia’s oil fields and the supply of weapons which perhaps most importantly, meant guaranteed protection.
The terms of this agreement included Saudi’s promise that they would:
The whole deal had a profound and immediate impact.
By 1975, all OPEC members had agreed to price their Oil in USD and to hold their surplus oil proceeds in U.S. Government debt securities – in exchange for U.S. protection, weapons and stability of USD investments.
The Petrodollar deal provided immediate benefit to the United States because of:
Today, USD’s can be bought the moment they are needed to settle oil trades.
Or settlement can simply be done in any other agreed currency, at the currency’s current USD exchange rate.
Since Oil is priced in dollars, there is a strong inverse correlation.
Basically, when its risk-on environment:
When it’s a risk-off environment, usually the opposite occurs. As a result, the JPY appreciates as foreign flows from Japan are repatriated back to their local currency.
Best correlation with JPY pairs, are USDJPY vs Nikkei and AUD/JPY vs ASX200 market. Japanese can get cheap credit, so they invest overseas heavily.
When it’s risky, they bring the money back creating demand for Yen. When its bullish Equities, they pump their money overseas, which means they sell Yen and buy foreign currency. Traders might want to short Nikkei if Yen appreciates overnight.
The AUD has a high correlation to gold due to Australia’s extensive gold mining operations. As gold prices fluctuate, this increases or decreases the number of funds transferred into AUD to make purchases of the metal. These transfers essentially change demand for the currency and can directly cause changes in the AUDUSD currency pair as well.
Whenever you trade, you need to pay attention to these Inter Market correlations. It will make your trading even better!