The relationship between different asset classes is fluid. Based on weekly settlement prices, the above graph suggests that the CME Group WTI futures contract and the 10-Year U.S. Treasury Yield are positively correlated. The actual number is just above 60%. Yet, the chart also implies that this love is sporadically lost – see the June-November 2022 period when crude oil dived from $120/bbl to $85/bbl with bond yields rising from 3% to 4.2%.
By definition, bond yields are the fixed returns realized when lending money to governments and corporations. Given the strength of the U.S. economy and the solid legal and regulatory backdrop, U.S. government bonds are deemed to be the safest form of investment. At the same time, oil prices are influenced by the difference between supply and demand, both physical and financial.
These two asset classes have reciprocal impacts, direct or inverse, on one another. High inflation, as mirrored in rising yields, could dent oil demand, sending the energy prices south, just like in the aforementioned period. Other times, oil is used as a hedge against inflation or genuine physical demand excess triggers inflationary pressure and the two move higher simultaneously.
The relationship is dependent on the context and is influenced by several factors: central bank policies, government actions, OPEC supply management, etc. The current investment environment is characterized by uncertainty. There are growing concerns about renewed upside pressure on consumer prices globally and in the U.S. Global oil supply is broadly quantifiable presently, but political and economic factors are the source of significant uncertainty. For this reason, it is reasonable to conclude that changes in bond yields, the indicators of inflationary expectations, will precipitate a reverse effect on oil consumption and, consequently, oil prices. Higher yields will be the harbinger of economic headwinds and sluggish oil demand growth, leading to lower oil prices and vice versa. In the foreseeable future, yields will impact oil prices, not the other way around.
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All examples in this report are hypothetical interpretations of situations and are used for explanation purposes only. The views in this report reflect solely those of the author and not necessarily those of CME Group or its affiliated institutions. This report and the information herein should not be considered investment advice or the results of actual market experience.
