Investing.com — Recent developments in the financial markets suggest that the long-term relationship between corporate stocks and oil prices is unraveling, and this divergence is expected to continue for the foreseeable future.
Traditionally, these two asset classes have moved in tandem, often reflecting changes in global demand.
However, Capital Economics analysts believe that we are now entering a period where they will follow different paths.
Over the past few years, trends in oil and equities have diverged significantly. Although the price recently fell to its lowest level in almost three years—falling below 70 dollars per barrel—the stock market, especially in the US, saw only a moderate decline.
The , for example, is down just 3% from its July high, which shows how disconnected these markets are. The reason for this division lies in the different factors that make up each market.
One of the main reasons for the difference is the impact of supply-side factors in the oil market. Unlike equities, which are more sensitive to economic fundamentals and investor sentiment, oil prices are heavily influenced by idiosyncratic supply issues.
OPEC+ decisions to extend production cuts, combined with the geopolitical risk premium, have created a supply-side volatility in the oil market.
These supply factors, rather than changes in demand, have kept oil prices under pressure, despite divergent global economic conditions.
At the same time, equity markets, especially in the US, are driven by very different factors. Enthusiasm for advances in artificial intelligence (AI) has sent a wave of optimism into the stock market, especially among tech-heavy indexes.
Until mid-2024, this AI-driven optimism helped push equity markets higher, when investors banked on the transformative potential of AI technology.
While worries about the US economy have temporarily dampened this enthusiasm in recent months, “we think there is still room for the AI-driven AI bubble to re-energize the US and the rest of the world in the near future,” analysts said.
Another aspect of this divide stems from the contrasting performance of China and the US in the global economy. China, the world's leading oil consumer, has seen its economic growth slow, as crude oil imports drop year on year.
This drop in prices has weighed heavily on oil prices, complicating the decline in global demand. However, this did not have a significant impact on global markets, which were heavily influenced by the performance of the US and other advanced economies, where demand remained stable.
“The US and other major advanced economies will avoid recession this year and the next one means our outlook for the global economy is very high. This, we think, will provide a good environment for stocks to perform well despite the low demand for oil,” analysts said.
Going forward, the outlook for oil prices remains fragile. With demand from China expected to remain low and OPEC+ likely to maintain tight controls on production, oil prices are likely to remain under pressure for some time.
However, this continued weakness in oil is not expected to spill over into the stock market.
The divergence between these two asset classes, already evident in recent years, is likely to continue as equity continues to be boosted by the performance of advanced economies and ongoing technological change.
Shares, in contrast, have a promising outlook. While there have been some concerns about the US economic outlook, Capital Economics expects renewed optimism about AI, which could drive gains in the stock market.
While there are risks—such as the potential for antitrust actions against major tech companies or international tensions—the fundamentals remain positive.
The technology sector, in particular, is expected to play a key role in driving equity markets forward, and AI will serve as a major driver of growth.
