Oil broke down further on Wednesday. The ostensible trigger was the larger-than-expected build in US inventories. However, the price of oil has been trending lower since the beginning of last week. It appears that our skepticism of talk of an output freeze is gaining support. The Saudis have indicated they do not see a need for action, while the Iranians have not yet returned output to pre-embargo levels.
The graphic below shows oil's recent run-up from early August and the more recent decline in the October light sweet crude oil futures contract. Our weekly technical view warned of risk toward $44.50, which was tested Wednesday as prices remained heavy. Wednesday's 3.75% drop means that the October contract has now retraced 50% of this month's rally (~$44.65). The 200-day moving average is a little lower at $44.35.
The technical tone remains weak. The five-day moving average is set to cross below the 20-day average in the next day or two. The RSI is trending lower and the MACDs have rolled over. The 61.8% retracement is found near $43.55 (green line). A break would likely signal a move toward $42. A few currencies are particularly sensitive to oil. They include the Canadian dollar, Russia's ruble, the Mexican and Colombian pesos as well as the Malaysian ringgit.
The pullback in oil prices has not had the usual impact on inflation expectations as reflected by the 10-year breakeven (the difference between the conventional yield and the Treasury Inflation Protected Securities, or TIPS). That breakeven has been mostly confined to a 5-bp range (1.45%-1.50%) with a few exceptions since early July. It was a little -- less than half a basis point -- higher on Wednesday despite the price drop. While one day does not make a trend, the rolling 60-day correlation (on the percent change) has eased from 0.70 in late July to less than 0.60 right now.