Oil Price Spike - Don’t Fear 2023 Highs

19th Oct '23 by Megan Boxall

6 comments 1374 reads

Oil price hikes tend to cause flutterings of unease for investors.

History tells us why. Nearly all post-war recessions in the US have followed or been accompanied by a sharp increase in energy prices. The major global sell-offs (including the 2000 dotcom bust and 2008 financial crisis) followed periods of strong energy price growth. And in the UK, market historians like to point to the Winter of Discontent, when energy prices surged following the Arab-Israeli war and markets sold off heavily. Even last year, oil prices played their part in investor malaise - strip out the strength of the oil and gas giants (which profited from the peak prices) and market returns were moribund.

The picture therefore appears clear: on both sides of the Atlantic, there is precedent for energy market woes spilling over into the stock market.

It makes sense that oil price spikes can cause challenges for listed companies. Rising prices make it more expensive to produce goods and services, driving down company profits unless management is able to pass on costs to customers. There is also plenty of research which supports the productivity fallout from an oil price surge. According to the International Energy Agency, a $10 increase in a barrel of oil means a 0.5% decline in global output the following year.

With production cuts from Saudi Arabia and Russia compounded by the atrocious conflict in the Middle East and its potential to spill over in to oil-producing nations like Iran, many investors are now on their guard. The price of a barrel of Brent Crude has surged 30% since June and looks set to return to triple digits for the first time in 2023.

This price change has been mirrored by the performance of FTSE oil majorsShell (LON:SHEL) (up 20% since June) andBP (LON:BP.) (+21%). Across the pond,Exxon Mobil (NYQ:XOM) (+14%),Chevron (NYQ:CVX) (+12%) andConocoPhillips (NYQ:COP) (+20%) have been in similarly high demand. Gold - a safe haven asset for troubled times - is also rallying.

And, as per the apparent historical precedent, the stock markets find themselves grappling with unwanted volatility. The S&P 500 peaked at 4,589 points at the end of July and has jolted downwards ever since. The Volatility Index (VIX), which enjoyed a restful summer, has started to tick upwards again. On UK shores, oil price rises have done nothing to support…

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yiannos1

19th Oct '23

I will panic though if Iran gets involved in all this mess in the Middle East. The markets will panic as well!

Dropside2

Interesting survey of the literature, thanks. I think a major concern about rising energy costs now is that these will add to inflation and hence central banks will manage interest rates at higher levels for longer. On the other hand, rising energy costs acts as a tax on consumers to some extent and depresses economic activity which is deflationary. Neither of these dynamics is great for equity markets!

Alphaflight

"Neither of these dynamics is great for equity markets!"

It depends upon which sectors you are invested in.

Mark Carter

Ignoring price spikes for now, Ken Fisher wrote a chapter on oil prices in his book. He concluded that high oil prices are correlated with high economic activity. So high oil prices are not necessarily a bad thing.

But I think there's probably more to it than that. I heard that commodities tend to outperform in an inflationary environment, and commodity companies even more so.

It seems like that the latter explanation is more likely than the former.

As regards the oil spike: I guess you've got to ask yourself how long, and how bad, the Middle East conflict is going to get.

The US has a pretty low SPR (Strategic Petroleum Reserve), which is presumably bullish for oil prices because they'll need to replenish it.

I also recently heard that China has its own oil reserve, and it's massive. Could they not release some of that reserve if oil goes to absurd levels?

So, lots of bull and bear points to consider, and difficult to attach a weighting to each one. Answers on a postcard.

Anton Crabbe

21st Oct '23

Great article, the same for the GDP and the performance on the share market. Intuitively you would think they are closely correlated but the relationship is very weak. This is why as a long-term fundamental investor I pay no attention to overall market direction and focus on the individual stock. I always keep this pearl of wisdom from Peter Lynch at the forefront: “Far more money has been lost by investors trying to anticipate corrections, than lost in the corrections themselves.”

StrawberryDreams

22nd Oct '23

I'm still working my way through Ray Dalio's book Principles and he's definitely one for writing down your principles/rules and turning them into your own algorithm and sticking with it.Sure you can add to it and tweak it.I must admit sticking to it (and believing in Paul (just kidding honest guv!) and his rhetoric that things will look up again.. sometime ) is definitely the harder bit for me.I definitely need to try at least as i used to be an awful 'trader'.

Oil price spike - don’t fear 2023 highs

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Megan Boxall

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