Do oil prices impact stock prices and, if so, how?

Researchers have been trying to determine whether or not oil prices are linked to stock returns. Between 2008 and 2017, there were nearly 70 articles on the subject published in Energy Economics alone. To sum up the findings, two Australian researchers analyzed more than 100 studies—mostly published between 2008 and 2017—from highly ranked journals, including Energy Economics.

Three conclusions were reached from the various studies. The first, unsurprisingly, is that oil prices impact the return of oil and gas stocks. Shocks to oil supply lead to disruptions in the supply of oil and negatively impact prices of oil and gas stocks. Aggregate demand shocks positively impact the returns of oil and gas stocks.

Second, increases in the price of oil generally negatively impact stocks of companies operating in industries where oil plays a big role in production costs. These industries include manufacturing and transportation. One study found a negative correlation between oil prices and the returns of manufacturing firms. Another study found an inverse relationship between oil prices and automobile manufacturers that are more reliant on SUV sales. One study that differed found a positive relationship between oil prices and airlines, citing economic growth as the common variable.

Third, oil prices are positively related to the returns of alternative energy stocks. As oil prices rise, so do the share prices of alternative energy companies.

There were some flaws identified in the studies, however. The researchers who reviewed the studies failed to understand “how the statistical relationship between oil prices and stock returns translates into practical implications.” The studies lacked empirical proof about whether their data contained “economic benefits for investors or policy makers.” The robustness of the economic and statistical relationship between oil prices and stock returns was often not fully discussed. The use of new econometric techniques (the application of statistical analysis to economics) was also criticized for creating a large volume of papers “that add little, or nothing, to what we already know about the oil price-stock returns relationship.”

Source: “What Do We Know About Oil Prices and Stock Returns?,” Russell Smyth and Paresh Kumar Narayan; International Review of Financial Analysis; Volume 57, May 2018.