Why a Falling Dollar Doesn't Always Mean Big Gains for Commodities

The impact of a falling or rising dollar varies among commodities because of supply/demand fundamentals and other factors

Relationships in the financial world, just like in human life, can wax and wane. A falling or rising U.S. dollar, for example, often has an impact on commodity prices, but that relationship doesn’t always hold sway in buying or selling decisions. Many commodities, though priced in dollars, are more influenced by current economic or supply/demand fundamentals.

“How U.S. dollar strength or weakness [impacts] commodities and which has a more powerful effect depends,” says Alfonso Esparza, senior currency analyst at Oanda in New York. “Why is the dollar moving? Right now post-Brexit, we’ve seen two modes: 1) a flight to safety; the dollar gets strong because something abroad is giving the dollar strength, or 2) strength is based on economic fundamentals. Last week we saw great numbers with retail sales. But the dollar didn’t listen to fundamentals the week following Brexit.”

In April, when the dollar was falling, S&P Dow Jones Indices published a report that found that "The falling dollar is 4.5 times more powerful than a rising one on commodities. Plus, every single commodity benefits from the falling dollar, with metals gaining the most.”

The thing is, many analysts don’t see the dollar as a main driver of commodity prices.

“The general theory is when the dollar weakens, commodities go up,” says Edward Meir, director of the Commodity Research Group in New York. But "relationship varies complex to complex," says Meir. "Metals are affected by the dollar, but we find the relationship isn’t as inversely correlated as, say, gold. Gold is more predictable. Dollar strengthens, gold goes down.

“A weaker dollar does affect base metals, but then the relationship breaks down and base metals do their own thing. That’s because those metals draw on what’s happening in China more than anything else…. What I find following these markets is that certain relationships govern for awhile until they don’t.”

Complicating things is the uneven impact of the dollar's move on certain commodities. For example, natural gas is more hurt by a rising dollar than helped by a falling one because it’s difficult to store, S&P Dow Jones noted.

Bob Savage, CEO of Track Research and a former managing director of FX research at Goldman Sachs agrees. “The point about natgas is an important one — not all commodities are mobile and global,” he says. “In fact that problem is true for most futures pricing of commodities.  Oil isn’t one price, it’s three-plus prices — Asia, U.S. and EU prices.  Similarly, many of the foodstuffs are regionalized.”

That said, he adds that “correlation isn’t causality…. Markets trade commodities in U.S. dollars so there is a base effect from USD fluctuations.”

Jerry Gidel, grains analyst for The Price Group in Chicago, says typically fundamentals impact commodities more than the dollar. “The dollar/commodity connection is very popular market commentary for many TV talking heads who come from the stock world. In broad generalities, when buyers are looking at extreme dollar levels, it can have short-term impact on a person’s purchasing decision. However, when U.S. output is the only near-term available exportable supply ... buyers will show up and make their purchase to meet their needs without a major regard for price.”

He says that in times of surplus world buyers of wheat and other commodities likely look elsewhere for their purchase “if they can get comparable quality and lower price because of their currency’s relationship with currencies other than the dollar.” In the case of copper, says Gidel, the relative value of the dollar versus the peso might have an impact when supply and quality don’t matter. “

Esparza also points out that when commodities are in surplus big importers, like India, will buy and store them.

"The real story about commodities and FX is about financialization," says Savage. "Commodity producers have converted future commodity sales into net present cash flow — and that process sets up some of the more dramatic volatility and movements.”

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