The Effect of Oil Price Movements on US Equities

On January 14, 2015

It has certainly been a confusing equity market recently. At times, falling oil prices are good since it puts more money into consumers’ and businesses’ pockets.  Alternatively, the declining energy prices lead to stock market declines because of the reduced revenue and investment in the energy industry.

Eric Stubbs at RBC has created a model that explains oil price changes on stock prices.  He breaks down stock prices into their earnings and price-to-earnings ratio components and models them against a wide range of economic factors.  He publishes results for both the Standard & Poor’s 500 and its ten economic sectors.  Some of the more interesting results are:

• For every 5% decline in oil prices, the market drops 1.7% due to declines in earnings.
• Basic Materials, not Energy, has been the worst performing sector when oil has declined.  Many oil price gyrations have been US dollar oriented, which also negatively impact materials companies.
• Technology is the largest beneficiary.  Finance and Utilities also perform well.
• A number of sectors such as consumer staples, health care and industrials are not significantly affected by oil price changes.

Currently, the iSectors® Post-MPT Allocations are overweighted in Finance, Health Care and Technology and underweighted in Materials and Energy. Given the expectations that oil prices will stay low for some time, Post-MPT Growth and Moderate are poised to take advantage of the current energy landscape.