Why Oil And Stocks Have Been Dancing In Lockstep

Throughout the long decline in crude oil prices, much has been said about how the oil and wider stock markets seems to be joined at the hip. Movement in one tended to be mirrored in a similar move in the other, especially to the down side.

Common sense suggests that some signals would affect both. Lower energy demand signals slower economic growth, and so should push down both oil prices and stock markets in general.

But that’s not what we’ve been seeing lately.

Instead of these broad trends pushing both stocks and oil in the same general direction, the two have instead been moving in almost lockstep connection. When one moves, so does the other, no matter the reason.

It seems common sense isn’t in charge of the markets any more…

Here’s why…

Supply and Demand Used to Set Prices

Not so long ago, it was the norm that a decline in oil prices for any extended period of time would actually result in a rise in oil usage (and by implication a rise in other energy as well). The reasoning was simple. The cheaper energy is, the more markets tend to use of it.

In turn, that would be regarded as an indicator of accelerating economic activity.

Similarly, geopolitical tension threatening oil supply or an international accord to cut crude production, thereby applying upward pressure on oil prices, would also have a rather immediate impact on many stocks.

Well, this was in the days when a standard equilibrium was sought between supply and demand. The assumption was that investment patterns paralleled market price.

When the price went up, it signaled insufficient supply in the face of rising demand, thereby obliging additional spending in crude production. Downward prices would indicate too much supply, resulting in declining forward working capital requirements.

Not so these days.

Supply Is No Longer a Concern

As you’ve seen before here in Oil & Energy Investor, for the first time I can remember in decades of experience in the energy sector, half of the traditional supply and demand equation is no longer an issue.