Oil prices are again in the spotlight and weighing on market sentiment, with weak data out of China and a lowered oil demand forecast from an international agency pushing prices lower.
The decline in oil prices is a net positive for the U.S. and world economy, and as such should be pushing stocks higher — not the other way around. The reason market participants find plunging oil prices unnerving is the read-through the commodity provides about the global economy. As discussed in this space in recent days, the current oil price decline isn’t just a function of increased shale oil supplies from the U.S., but also reflective of soft demand elsewhere — a result of global economic weakness.
We have been aware of the uncertain outlook for the global economy for quite some time, with Europe fighting deflation, Japan still struggling and China losing steam. In fact, the improving outlook for the U.S. economy is in contrast to almost all its trading partners. That is the reason why U.S. monetary policy is moving in a different direction from what is expected among other major world economies. The resulting strength in the U.S. dollar has been a contributing factor to the oil price decline.
But more than anything else, markets get concerned when they see the oil-price decline as a proxy for the health of the global economy. These concerns are in the spotlight today following the negative revision to 2015 oil demand by the International Energy Agency (IEA) and the weak industrial production reading from China.
The IEA report isn’t surprising, as it follows similar readings from other agencies like the U.S. government’s Energy Information Administration, OPEC and others. But the China factory sector report goes to the heart of these global growth concerns that gave us the big stock market pullback of late September/early October. In fact, the Chinese weakness is a big reason why global oil demand hasn’t been able to keep pace with rising supplies.
These concerns notwithstanding, the decline in oil prices is one of the best things that has been happening to U.S. consumers in the recent past. In fact, it is reasonable to say that the lower oil prices are adjusting for some of the drag from the stagnant wages. No doubt the consumer sentiment survey coming out a little later is expected to show a nice gain from last month’s reading.