Can a weaker dollar propel oil prices higher than current levels near $81 a barrel, or will bearish oil market fundamentals hold oil prices back?

The correlation between oil prices and the dollar has reached a coefficient of -0.9 in 2009, Reuters data shows.

That strong inverse relation means oil -- priced in dollars -- has been highly likely to rise when the greenback slumps.

The dollar has weakened 14 percent against other major currencies since it reached a 35-month high in March. .DXY On Wednesday, oil briefly rose to a 12-month high of $82 a barrel and the dollar fell to a 14-month low.

Most analysts foresee more dollar weakening on record U.S. government borrowing, a stilted economic recovery and doubt over the greenback's role as a reserve currency. (For a graph that shows oil and dollar performance: here )

RISK APPETITE

Oil may be a good buy if the correlation persists.

Show me a dollar that goes lower and I'll show you oil prices that go higher, said Jan Stuart, global oil economist at Macquarie Capital. Exactly what is causing the correlation is less clear, but it's obviously happening.

New money flow patterns have reinforced the correlation. Commodities are gaining as economies rebound, boosting demand prospects for raw goods. Investors are buying riskier assets while shunning lower-yield ones, like U.S. Treasury bonds.

Oil futures are drawing in big financial players, while exchange-traded funds (ETFs) that pay returns when oil futures rise have attracted new retail investors.

There's a skepticism out there about financial assets, and oil is taking on a role that has traditionally been held by precious metals like gold, said MF Global's Mike Fitzpatrick. 

People expect a further deterioration of the dollar, but they think oil may hold more value, he added.

Talk of a potentially diminishing role for the dollar in global trade -- including for crude pricing -- may also be eroding the currency's value.

China, where oil demand is surging, earlier this year suggested replacing the dollar as the world's major reserve currency. Demand for oil is rising fastest outside the United States, in several countries whose firming currencies now buy more dollars, keeping oil relatively cheap for them.

A large amount of call options on oil for December delivery have been struck above $80. Option-sellers may need to cover their positions, buying oil futures if prices stay above $80. That could boost oil prices further in coming weeks.

FUNDAMENTALS WEIGH

Weak oil fundamentals could break the link, however.

Global oil supplies are enough to cover demand for 61 days, according to the International Energy Agency, compared with OPEC's target of 53 days. [ID:nLM643826]

U.S. crude and product stocks are at 5-year seasonal highs, a sign economic recovery has yet to spur more energy demand.

The dollar's inverse relationship with oil prices is a new phenomenon, and it may be a fickle one.

The correlation stands at -0.9 this year but was strongest in 2007 (-0.97). As recently as 2005, oil and dollars were positively correlated, typically moving in the same direction (+0.63). The correlation was usually positive in the 1990s.

The relationship doesn't have to last. Correlations tend to get stronger in crisis periods. Demand remains weak now, said Summit Energy's Brad Samples.

When the U.S. economy comes back it should support crude and the dollar at the same time, he added.

World oil demand has fallen by 2 million barrels a day since peaking at 86 million barrels in 2007, OPEC data shows. Low demand helped push prices down to nearly $32 last December, after they had surged to a record $147 a barrel in July. Prices briefly rose to $82 this week.

Fundamentals do not support this price, OPEC Secretary General Abdullah al-Badri said Thursday. [ID:nLM539505] (Additional reporting by Nick Olivari; Editing by Christian Wiessner)