Tuesday, November 9, 2010

Crude oil as a bellweather for stocks?


There has been a noticeable increase in the correlation between stocks and crude oil. While other commodities have actually seen their correlation with stock decrease, the crude oil - stock relationship has actually increased. This has not been just an event tied with the Great Recession but a correlation which has persisted this year. Without a geopolitical shock, the price of oil will be tied with global income levels which will also be associated with equity moves.

Crude oil and S&P500 do move closely together this year.


coef. S&P 500

p-value

longest series 1991.01 - 2010.10

0.22

0.00

pre-crisis 2004.01 - 2007.12

-0.30

0.08

crisis 2008.01 - 2009.06

0.63

0.00

YTD 2010.01 - 2010.10

1.08

7.27E-07



Will this relationship continue? History suggests not. When oil prices continue to increase there is greater likelihood that it will start to tax spending in other areas. Additionally, over time there is greater likelihood of a geopolitical risk premium. Oil price shocks are associated with economic downturns.

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