Do Emerging Markets Really Need Higher Oil?

Charlie Bilello profile picture
Charlie Bilello

"Emerging markets are getting crushed: The oil crash raises the risk of a full-blown crisis in the emerging market world."

- CNN Money, February 2016

It's a tale as old as time. Emerging markets stocks "need" higher oil prices. Oil is said to be their lifeblood; without it, they are doomed to a state of perennial crisis.

In markets, investors prefer simple narratives, and lumping all emerging markets into one bucket with one driving factor (crude oil) makes investors feel good. For as long as they can predict which direction crude oil is going, they can predict emerging markets.

There are only two minor problems with this logic:

  1. Investors cannot predict the direction of crude oil any better than they can predict the direction of the dollar, interest rates, or the S&P 500.
  2. Crude oil is only one factor among many influencing the direction of emerging market stocks.

Going back to 1986, the monthly correlation between emerging markets (MSCI Emerging Market Index) and crude oil is 0.36. In plain English, that means they often move in a similar direction. The key word in that sentence is often, which is far from always.

On a monthly basis, emerging markets and crude oil have moved in the same direction only 60% of the time, which means that 40% of the time they are moving in opposite directions (crude up, EM down or crude down, EM up).

Over the past year, this is precisely what we've seen, with the 1-year correlation dropping to record low of -0.58.

In 2017 thus far, emerging market stocks (EEM) are up over 16%, while crude oil is down 14%.

What gives? This was not "supposed to" happen; emerging markets were "supposed to" be down.

Indeed, but they're up. And as we know from history, this is not the first time

This article was written by

Charlie Bilello profile picture
Investor. Author. Reader. Thinker.

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