Here's the question: How would stock market react if crude oil continues to slide into the $30s/barrel? Another question: How would stock market react if Tesla continues to sell off?
Let's discuss oil first:
Crude oil is essentially part of a fundamental story that stock market should pay attention to. Specifically,
- Crude oil price is a significant input in inflationary expectations, which directly affects the monetary policy. Thus, it is unlikely that the Fed would rise interest rates while the crude oil price is in $30s, and sliding.
- Moreover, it would be difficult to justify the "reflation trade" with oil in $30s. As a result, the long-term interest rates (NYSEARCA:TLT) would also re-adjust to lower inflationary expectations, which would increase the risk of a recession as the yield curve flattens.
- Thus, fundamentally, the continued slide of oil price into the $30s would be a major warning sign for stock market (NYSEARCA:DIA) (NYSEARCA:IWM).
Let's now discuss Tesla:
Tesla stock is essentially a major part of the momentum story for the broader stock market. Specifically:
- Along with several other large tech (NASDAQ:GOOG) (NASDAQ:GOOGL) (NASDAQ:FB) and consumer (NASDAQ:AAPL) (NASDAQ:AMZN) stocks, Tesla has experienced a very strong technical uptrend, which significantly affected the narrowly constructed Nasdaq Index (NASDAQ:QQQ).
- Thus, a continued sell off in Tesla could potentially reverse the momentum in other momentum stocks as sentiment changes. The investors looking to buy Tesla based on any type of fundamental story are very late to the party. On the other hand, investors looking for a trend continuation in Tesla could have a profitable short-term trade. However, if the trend reverses, Tesla is likely to have only sellers, as the trend-followers retreat, or reverse to their bets to short. As a result, these trend-followers could reverse other momentum longs as well. Note, the key variable here is sentiment - as sentiment changes in Tesla, the sentiment could change for the broader stock market.
- In support, David Einhorn states that:
The enthusiasm for Tesla and other "bubble basket" stocks is reminiscent of the March 2000 dotcom bubble.
The 5% drop in crude oil and Tesla - on the same day - had the potential to negatively affect both, the fundamentals and momentum - on the same day. Needless to say, an efficient market could have mini-crashed on such a day, given the current market situation (historically high valuations and historically low volatility). Yet, the broad stock market remained resilient.
However, investors should continue to follow both, crude oil as a real-time fundamentals indicator, and Tesla as a real time momentum sentiment indicator.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.