While the press has been busy speculating on what the next major private equity deal will be, oil stocks have been quietly staging a rally. Even more impressive is the fact that oil the commodity has not been nearly as strong, as it is still over $14 off its Summer highs.
In the chart below, we plotted the ratio of the S&P 500 oil and gas group to the price of oil. As the chart shows, the ratio currently stands at 7.25, which is near three year highs. This compares to a three year average ratio of 6.19.
In order for this ratio to get back to equilibrium (and no one says it has to), one or a combination of two things has to happen. Either the stocks have to trade down or the commodity has to rally. Based on current prices, oil would have to rally to $73 (17%) or the stocks would have to correct by 14%. Another possibility is that both assets continue to rise, but the commodity rises at a faster pace than the stocks.
click to enlarge