Source: Bloomberg

The latest drop in the oil price doesn’t appear to have much of a macro impact. To what extent is it a gauge of economic strength? The story has been that oil is falling due to excess supply. There might be a demand element, though.

There is a remarkably close and consistent relationship between the spread between 5- and 10-year TIPS, and the price of oil. The TIPS curve slope to some extent embodies long-term economic expectations. The collapse of oil prices in 2014-2015 followed a flattening of the TIPS slope. In a much smaller way the same thing has happened recently.

The r-squared is about 0.74, and it is quite robust. A breakpoint regression shows high coefficient stability (although the highest coefficient by far is during the 2014-2015 oil price collapse). Visually it is clear that the TIPS spread leads oil most of the time (although Granger causality is unstable over the whole period).

The rolling correlation (over 3 months) of returns between the TIPS slope and oil is quite stable:

Source: Bloomberg

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