How oil and stocks perform after a sharp drop in crude prices
Oil has been in the headlines lately as prices have collapsed over the past couple of months. For us, the question is always, "How will this impact stocks?" To answer this, I'm going look at how the stock market has performed after prior instances of oil declines of 30% or more. Additionally, I'll look at individual stocks that might do well going forward, if oil has bottomed.
First, here's some context on what's been happening. The chart below shows the year-to-date performance of the S&P 500 Index (SPX) and oil. I also have the typical path of these two assets since 1980. The usual path of oil shows that you might expect a peak in October. The extent of its recent decline, however, has been startling. Oil was down more than 30% from its October highs before news of Organization of the Petroleum Countries (OPEC) production cuts buoyed prices this week.
Returns Following Oil Collapses
To see the effect of oil collapses, I went back to 1980 and found times that oil prices fell by at least 30% within three months. I found 11 instances, with the last one occurring in February 2016. The table below summarizes how oil performed after these instances. The second table below shows typical oil returns since 1986, the year of the first signal.
The results are a mixed bag. The average oil returns look solid in each time frame except at three months. These returns, however, have been risky. Six-month returns were positive less than half the time. The standard deviation of returns is extremely high, with the average loss six months and a year later each being over 25% (not shown in the table).
Next, I have similar tables showing stock market returns after these steep oil declines. Here, the returns in the top table look a lot like the returns in the second table. The only thing that sticks out is the higher-than-normal volatility out to six months, as measured by the standard deviation of returns. The one-year SPX returns show more normal volatility and slightly bullish returns.
Best Oil Stocks After a Crude Bottom
Nothing was eye-popping when looking at the tables above. The data on individual oil stocks below, however, might be actionable.
We have 83 optionable oil stocks in our database. I looked at how these stocks performed from June 2015 until oil bottomed in February 2016. (June 2015 was an intermediate top during an oil decline that began in mid-2014. I used that intermediate top so that the time frame more closely matched the time frame of the recent decline).
Typically, during rebounds the stocks that were beaten down the worst performed the best going forward. This was no exception, but the outperformance was incredible. The worst 20 oil stocks averaged a gain of well over 100% six months after oil bottomed. The worst-performing stock of the group gained 23%. Most impressive is the fact that 60% of the worst-performing stocks doubled over the next six months. Only 5%-7% of the other stocks doubled.
As you would expect, below I have a list of the 20 worst-performing oil stocks from June of this year (the oil price peak) to last Wednesday's oil price low. Based on the analysis above, if oil has in fact bottomed, these stocks are poised to make huge gains. Remember, it's contingent on the fact that oil has bottomed.
