On the Long-Term Coupling and Short-Term Decoupling of Crude Oil and Natural Gas Prices

Abstract

This article scrutinizes the relationship between the U.S. crude oil and natural gas prices. The relationship exhibits regime changes, which depend on technological, economic and geopolitical factors. We find that crude oil and natural gas prices decouple over two periods of about three years each (i.e. short-term decoupling) while they couple over four subsequent periods (i.e. long-term coupling during thirteen years approximately). During decoupling periods, crude oil and natural gas prices exhibit a negative correlation while the correlation becomes positive during coupling periods. Using linear Kalman filter, we allow for stochastic regression coefficients and heteroskedastic errors in measurement equation to appraise the time-varying relationship between crude oil and natural gas price changes. Such approach decomposes a global nonlinear relationship into period-specific linear linkages. Moreover, random parameters/volatility illustrate the uncertainty in energy costs and prices, and handle local nonlinearity. Incidentally, natural gas and crude oil price changes are non-significantly linked during decoupling periods. Our findings depict changes in the competition between oil price makers and takers, and the impact of technological improvements, including the shale gas revolution. They also open the door to possible short- and/or long-term hedging and arbitrage strategies between crude oil and natural gas.