Oil’s Volatile Monday
Posted September 23, 2008 at 6:27 pm 
Filed in: Yesterday’s wild ride for light sweet crude oil at the New York Mercantile Exchange once again demonstrates the link between the dollar and the price of oil, a link that we explored in an April paper entitled A Different Type of Price Spike.
During the course of the day yesterday, the price of the October contract for the delivery of crude oil rose by more than $25, briefly touching $130, before falling to expire at $120.92, up $16.37 for the day. What happened? Part of the price spike was attributable to expiration of the October contract for oil at the end of the day. It appears that many market participants had sold October oil short, as they expected the price of oil to fall. In order to cover their short sale, they had to purchase a contract for October oil before the end of the day when the contract expired. Otherwise they would have been required by their contracts to actually deliver oil that was the subject of the contract to their counterparties. Thus, there was strong demand for October oil contracts.
That demand for oil contracts was intensified by what was happening in Washington. Throughout the day yesterday, the markets became increasingly concerned about the shape of the proposed federal bailout of the financial sector. As that concern grew, the stock market fell and investors looked for somewhere else to park their money. A portion of it appears to have headed towards commodities, including oil. That put upwards pressure on prices.
At the same time, others may have concluded that a $700 billion bailout would help strengthen the economy and stimulate demand for oil, pushing prices higher.
As oil pushed upward, the dollar fell sharply, in part because of concerns about the possibility of significantly increased federal government debt as a result of the $700 billion bailout and in part because adding that much liquidity to the market might dilute the value of the dollar. As the dollar fell, oil prices, which are denominated in dollars, rose.
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