As the news cycle spins faster and faster, we are seeing more and more market observations based on gut feelings. One such observation that I have heard recently is that oil and energy are driving stocks more than ever before.
I thought we would look to the hard data in our own version of MythBusters. So what does the data say?
Below we plot three sets of rolling 1-year correlations using data from Fama/French and FRED:
- The correlation of energy stocks and oil prices (ENERGY/OIL)
- The correlation of energy stocks and broad U.S. stocks (ENERGY/MARKET)
- The correlation of oil prices and broad U.S. stocks (MARKET/OIL)
Source: Kenneth French data library, FRED, Newfound Research
A few observations:
- There has been a recent spike in all three correlations since near-term lows were hit in mid- to late-2014.
- In all three cases, current correlations are above the long-term average over the 1986 to 2015 period we studied. Elevated correlations are much more prominent in the MARKET/OIL and ENERGY/OIL cases then in ENERGY/MARKET. (ENERGY/MARKET correlation is at 0.72 compared to a long-term average of 0.69; MARKET/OIL correlation is at 0.29 compared to a long-term average of 0.08; ENERGY/OIL correlation is at 0.66 compared to a long-term average of 0.35.).
- However, these elevated correlations seem to have less to do with the recent oil crash than they do with a regime shift post-global financial crisis. In fact, current correlations are actually lower then the average level from March 2009 to December 2015.
Conclusion: The idea that oil is driving stocks more than ever rates as partially true. Correlations are above long-term averages. However, this seems to have less to do with recent oil volatility than it does with an overall correlation trend that has existed post-2008.