Even in these days of algorithms and high frequency trading, there is a human element to how markets trade. That is why, at times, a narrative takes hold that dominates trading to the point where some of the moves begin to defy logic, and some stocks get overbought or oversold as a result.
Right now, oil prices are having a big effect on stocks. Understandably enough, given that crude has hit multi-year highs and the price of gas affects so many aspects of the economy, there has been a marked inverse relationship between WTI futures and the major stock indices for a few weeks. As oil climbs, stocks fall, and a reversal of that move prompts a rally. Admittedly, that is in part due to the opposite reactions of the two markets to the same news. When Russia invaded Ukraine, it removed some oil from the world market and invited sanctions that would impact profits at some American companies. Logically, oil went up as stocks fell in reaction to news from Ukraine, but that relationship was more coincidental than causal.
Recently, though, we seem to have moved on to a situation where stocks are moving because of moves in oil, not because of the news that is prompting those moves. Crude is higher this morning and stocks are lower, reportedly as a result of that. In some cases that makes sense, but when a signal like that prompts generalized selling, it can lead to some completely illogical moves. The move in WTI is largely a response to an attack by Houthi rebels on a Saudi oil facility, something that is specific to oil and has no bearing on stocks not impacted by oil prices directly, but stocks are trading lower this morning as a result. Even less logically, the usual suspects -- high multiple tech stocks -- are getting hit most.
What happens is that traders, in their very human way, see a sell signal then sell whatever conventional wisdom says to sell at that time. The problem is that sometimes the trendy sell (or buy) doesn’t really fit the narrative driving the move. Selling because oil is higher is logical enough. So is selling stocks with high P/Es after a period when multiples have been stretched. However, selling high P/E stocks in a knee-jerk reaction to higher oil, even if the companies have little or no exposure to oil, defies logic.
In some cases, that is what seems to be happening now.
The big drop in a stock like PayPal Holdings (PYPL), say, that had a high P/E, came in response to the risk-off, anti-growth mood of the market over the last six months or so. Whether you think that was justified or not, it at least made sense when risk was being dialed down. The acceleration of that decline as oil prices climbed and the small bounce seen since crude backed off from its $130 high and stabilized, however, suggest that PYPL is reacting to oil prices, and that doesn’t make sense at all.
1 Month comparative chart between PYPL (blue) and OIL (green)
There are growth-oriented tech stocks that do have a direct or indirect relationship with oil. Amazon (AMZN) has a big fleet of planes and trucks, so fuel costs will impact them, and consumer product companies like Apple (AAPL) could be hurt by a situation where their customers are paying out more to fill their gas tanks and therefore have less to spend on iPhones and iPads. However, PayPal has little or no exposure to higher fuel charges and doesn’t really care where customers are spending money as long as they are earning and spending more, so any relationship between the price of oil and the price of their stock will correct back at some point before long.
The price of crude oil should impact investors’ decisions about a stock like PYPL, but in the opposite direction to what is happening right now. If higher oil once again sends the stock lower, it will be a great opportunity to buy at a discount with a view to long-term holding. The reason for the drop will be suspect at best and even if crude remains elevated for some time, eventually that reality will be factored in, and any oil related losses will be recovered. That will give you initial gains that can be built on when the inevitable happens and growth comes back into vogue, and boost returns as a result.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
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Martin Tillier
Martin Tillier spent years working in the Foreign Exchange market, which required an in-depth understanding of both the world’s markets and psychology and techniques of traders. In 2002, Martin left the markets, moved to the U.S., and opened a successful wine store, but the lure of the financial world proved too strong, leading Martin to join a major firm as financial advisor.
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