This oil sell-off may not mean anything for the stock market

AfgaHSBCCrude oil and stocks were tightly correlated until recently.

Crude oil and stocks used to have a tight relationship.

They typically moved in the same direction, and strategists were quick to cite a decline in oil prices as one major reason for any stock-market weakness. For example, when stocks nosedived about a year ago on August 24, crude oil fell to a post-crisis low at the same time.

Investors in stocks were watching the implications of lower prices on oil-producing economies, energy giants, and so on.

But that relationship may be over. Around July, the correlation between stocks and oil broke down, HSBC Global Equity Strategist Ben Laidler highlighted in a recent client note.

On Monday, crude oil prices continued to fall, with West Texas Intermediate crude futures for October delivery down 2.6% to $47.83 per barrel.

Last week Thursday, WTI emerged from a bear market. Chatter about a possible production-freeze agreement between OPEC producers at their meeting in Algeria in September was cited as one of the catalysts for the rally.

But this rise, and any further episode of oil sell-offs or strengthening, may not matter that much to the stock market as a whole.

“Sector performance has, however, been directionally similar to previous periods of crude price weakness, with defensives generally outperforming cyclicals,” Laidler wrote. Cyclical stocks move in tandem with the economy’s turn, while defensives are agnostic to its performance.

“Materials was an exception, and could experience downwards pressure on further crude weakness.”

The materials sector includes the oil and gas companies whose bottom lines are directly impacted by the slightest movements in oil prices.

“We are overweight the energy sector; see the market returning to balance, and 2017e Brent averaging USD60/b,” Laidler said. “The sector has the world’s lowest cyclically adjusted PE, and a high and relatively sustainable yield.

The main stock indexes were little changed on Monday as crude oil slid, with the S&P 500 flat in mid-morning trading.

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