Currency & Commodity Correlations

Currency & Commodity Correlations
August 19, 2020 Market Traders Institute

Historically, the value of the Canadian dollar (CAD) relative to the U.S. dollar (USD) has strongly correlated with the demand for oil. Often, currency values fluctuate in line with different commodities, and this relationship is a prime example. But why?

The answer is relatively simple — Canada is the biggest supplier of crude oil to the United States, providing almost half (48%) of the United State’s crude oil imports in 2018. Additionally, Canada exports 96% of its crude oil to the United States which explains why the value of oil has such a strong effect on the CAD/USD relationship.

When oil prices are high, the value of CAD relative to USD increases, but when prices fall, this trend reverses. To explain, imagine that demand for oil is soaring, and as a result oil prices increase. By selling oil to the United States, Canada receives an influx of U.S. dollars, and this abundance makes USD less valuable while driving up the value of CAD.

In contrast, when demand for oil in the United States falls, Canada must drop its crude oil prices to stay competitive. Because oil prices are so low, less USD flows into Canada, and by extension, this currency becomes more valuable while CAD falls in value.

Noting correlations like the relationship between oil and CAD can be critical when you’re trying to make effective trades, and you can see this relationship over time if you simply look at a chart of oil prices compared to the relationship between CAD/USD.

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