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Bunds are good indicators of oil price movement – for now

Published Tuesday, June 21st, 2016

Oil prices are mostly driven by supply/demand considerations but every now and again concerns about the global or regional economy take over. Fears that economic performances could disappoint tend to lead to an exodus from risky assets, including oil, and a rush to safe havens, the most prominent of which are highly-rated government bonds. Low bond yields indicate the complete lack of trust in other investment opportunities and as such do not bode well for commodity prices.

This was certainly the case last week when one of the safest possible investment tools, the 10-year German Bund, yielded negative rates of -0.014% last Wednesday and -0.02% a day later. These negative yields coincided with the oil market falling hard from its high of well over $52/bbl basis Brent from a weak earlier. Negative bond yields indicate the absence of other sound investment opportunities as investors are willing to pay to lend money to governments. They would rather take a calculated loss for a certain period of time as opposed to ending up taking a potentially much bigger hit by investing in risky assets.

Logic therefore says that German bund yields and oil prices should correlate highly. It was certainly the case in the second half of 2014 when Brent’s correlation to the 10-year German government Bund stood at 94%. Other times this relationship is negative just like this year. Bund yields have been falling constantly this year from +0.63% on the last day of 2015 to around 0% now. During the same period front-month Brent has gained 35% hence the correlation of -69% this year.

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Posted by Tamas Varga

Tamas Varga has been in the oil industry since 1992 and with PVM for 18 years. During his time in the industry he has gathered a range of experience in the oil markets. At PVM Tamas is in charge of data collection and analysis.