What I would like to reveal with these two charts, the Crude Oil market (USDWTI) and the US Stock Market (SPX500) using a 22-day chart (monthly) is the link between them and how we can utilize large drops in Crude Oil to help us to find support levels in the S&P500 Index. In order to help us see crude oil inflation adjusted, I divided Crude by the CPI Index. You can see right away that Crude oil is less than it was back in 1984 and about in the middle of the range over the last 35 years.
Large declines in Crude Oil are shown by Yellow shaded boxes and by Green Triangles. I labeled the price peaks in crude oil, and transferred those to the S&P500 so you can see the dates are an exact match.
I then added Yellow Boxes to the right of the green boxes to extend the support level forward in time so you can see how the market finds support at the level where crude oil prices had fallen dramatically in the prior cycle.
What's the point here? Large drops in crude oil have the effect of increasing profits in the economy and act as a stimulus to encourage spending in the economy. Money that would have flowed out of the country to purchase oil from foreign countries instead gets spent again and again in a multiplier cycle to increase measured economic activity.
In the short run, crude oil often is seen as a coincident indicator revealing that there is enough strength in the economy, and thus stock prices, to support higher crude oil prices. It's a common refrain from media commentators and it has it's base in logic in the short run.
In the long run, large declines in crude oil are great for the stock market and large increases in the price of oil are a giant destroyer of stock market values.
Notice the 1999 to 2008 run up in Oil prices which coincided with the giant bubble in real estate prices and its subsequent decline which decimated the banking system and people's faith in the financial system. Do you see how it also makes sense that as oil prices increased, it damaged the profitability of companies and of the economy as a whole? As the price of oil increased, we needed to devote an ever increasing quantity of time and resources to find more oil to feed the economy, which by its mere nature, is unproductive. It's as if you had to spend your entire evening cutting up wood outside so you could stay warm "inside your house" so you can get real work done.
Cash flowed out of the US to foreign nations to secure energy and less was available for the local economy. Also, investors lined up resources to grow the energy supply, which also took capital away from other projects. Bankers love to finance a sure thing like oil.
Let's look again at 2016 when oil prices collapsed down to $24 a barrel in February that year. There was near panic as it was feared that the banks that invested in oil related projects would default and go bankrupt. But you can also see that was a FERTILE TIME to buy stocks since the drop in oil was an economic boost to free up consumer spending and drive activity up, up, up. Later in 2016 there was a little thing that happened too, the Presidential Election and the hopes that tax rates would be cut. That's similar to another time and is the subject of another chart I posted over two years ago here.
The last point to make is that I overlayed the 1986 plunge in oil prices with the plunge in 2008-2009 and I couldn't help but notice how the action after that plunge has repeated itself so far to date. Time will tell, but there seems to be another long drop in the price of crude ahead.
If the price of crude gets too high, out comes supply and knocks it down. If the price gets too low, we use it up and drive the economy and then we end up using it too fast. It's an old cycle and it will continue forever.
Cheers.
Tim West 11/14/2019. 11:03PM EST
Komen
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Crude oil dropped right in line with the historic pattern but it dropped much sooner. Either way. I can say that this drop in the price of crude oil is now positioning the market well for gains looking out 3-6-9 months. There is a lagged effect to this "stimulus" or "tax cut" from lower oil prices. The drop we are seeing in stocks and crude oil is reminiscent of the 2001 9/11 Terrorist attacks which grounded airplanes for a week and stifled economic activity for months as everyone changed their plans for security.
So for the near term, we are dealing with the impact of the value of existing oil inventory and strongly declining demand for oil with the global economic reaction to the CoronaVirus. Let's stay closely tuned to the market's reaction to news and the OPEC/Saudi Arabia/Russia oil over-production mess.
I'll be in the Key Hidden Levels chat room each day.
Tim 3/10/2020 9:15AM EST
Komen
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Now that it has been nearly a year since this forecast for a large drop in the price of crude oil came to pass, we are entering the stage where we should look for a rise in crude oil. The news today about the Pfizer vaccine for Covid19 might just be the spark that ignites the reality that an economic recovery would lead to a lasting and large rise in the price of oil. Stay tuned... The pattern is there in that people expect the price of oil to stay low and are addicted to low oil prices. Also it would be logical too for oil producers to find a way to get prices back up. How can they do that? Study the last cycle and see if we can find a pattern there. My best guess is a vaccine should lead to a doubling of oil prices over the next 12 months. For now, invest in deep freezers that can store the vaccine and freezer trucks to deliver the vaccine all across the US and the world.
Komen
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I added the latest collapse in oil prices from the Covid crisis
Komen
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You can see that crude oil ISN'T much above the peaks in crude oil over the last 40 years. Everyone is talking about it because the price ramped up so quickly and the news was so frightening. Watching WW3 start by Putin and the crushing destruction to property and lives for no obvious reason is maddening to the world. Crude oil was insanely cheap from the Gov't lockdowns as demand dried up. Now we see that Putin might have been upset from losing so much cash flow over the last 5-6 years as the "uptrend in crude oil from 1999 to 2015" seemed to end. Losing substantial amounts of money can make a normal person go mad. To continue the pattern from the 1985 collapse in oil prices which has mimicked the decline from 2008, and likely the price of oil will hit new all-time highs (adjusted for inflation) over the next 5-6 years. Stay tuned. Tim West. March 15, 2022 8:31AM EST
Komen
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Updated chart to include more forecasted price action to extend to the top in 2008, which gives upside of 200% or so to crude oil from here on September 22, 2022.
Thank you so much for sharing your views , this is very interesting .
codex42
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Interesting chart, thank you. Do you think the increase in US oil production since 2008 might cause this relationship to decouple?
timwest
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@codex42, There are a ton of factors that will constantly impact the relationship. In the long run going forward, the adoption of Electric Vehicles could make crude oil drop to $25 to $15 per barrel without much impact to lift the stock market. When the price of crude oil goes up, think of it as a headwind for the market instead of the typical "go along with the crowd and think it is bullish". When crude goes down, think of it as a "tailwind" to help the market. Just trying to make sure you can think "outside the box of what so many other commentators say".
Thanks for asking!
Tim. Friday, Nov 15, 2019 8:07PM EST
bitofamacroman
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Im lost on this one? Educate me please. I see large crude declines frontrunning large declines in equities. In fact if you wait for crude to bottom and begin to turn, then sell equities and buy crude you would have made massive returns. I am just curious as to how I am see things so differently. Is it time scale? In 2000 crude peaked and plunged, a couple months later equities followed. Same in 07-08. Its a pattern and I am not dismissing your hard work and lengthy evaluation, but these major moves where crude plunges proceed equity plunges are notable. Given that, we are in a different world now. Crude may wind up becoming a less valuable commodity given the extent of alternative sources of energy. Maybe, just maybe, we are beginning to become a less oil dependent world. Anyway, its just a thought because things do change and past performance is not always indicative of future performance.
All that said, I love you work its really great! Thank you for sharing.
timwest
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@cciappa, Happy to try again. I love to get questions so I can learn how to explain it more clearly.
At any point in time, crude oil could fall and that could drag down the market with it. The price drop could be, for example, from an increase in supply of crude oil or from a weakness in the economy.
BUT ONCE CRUDE OIL HAS FALLEN... and the market has gone down, we have to look at the drop in crude oil as a bullish factor that will drive the next rally in the stock market.
People often forget that because they watch crude oil fall AND stocks fall together and think they always will move together. They forget that it goes through phases or cycles that I am talking about here.
It's as if there are times when the markets are MARRIED and other times they get DIVORCED and move in opposite directions. It's not only ONE-WAY with this relationship. By finding the patterns as I have labeled above, you can turn BULLISH on equities AFTER oil prices have dropped excessively and have a price level to reference for future declines to hold as support.
Does this help make it any clearer?
Best regards,
Tim. 7:56PM EST Friday, Nov 15, 2019
bitofamacroman
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@timwest, Yes, much more clear. Thank you. Have you found that the break in crude often precedes the break in equities for a potential short position in equity indices? Or is the more risk appropriate play to await and buy the break and potential pullback?
timwest
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@cciappa Hello again. If crude oil goes too high and breaks down, then yes that is a good setup for going short the stock market. It’s a coincident indicator in that part of the cycle. As crude oil surges, it is wise to steadily unload stocks and then if crude oil surges enough, like in 2008, it can set up a large decline and go net short. As crude falls, you cover your shorts and start getting long again. It’s a fairly reliable pattern.
L_UP_247
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Everything is a cycle and when you look at astrology and numerology you will see how regardless of whomever is president the prices of all market aspects are basically laid out in advance. You know this it’s just tough to say in the “public”. :)
BoyPlunger91
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Your idea is very relevant now...
lawrence14198
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@LachlanGorman, check out my free telegram t.me/priceactiontrades