Does $3 Really Matter?

End of Day Update:

The S&P500 dropped another dozen-points Tuesday as obsession over weak oil prices continued for a second day. Volume was above average on this fourth-downday out of the last five-trading sessions. But as much red as we’ve seen, we remain within a few percent of all-time highs. Clearly there is a disconnect here, but who is getting it wrong, the bulls or the bears?

Oil fell $3 over the last two-days and is under $40 for the first time in seven-years. We’ve been hearing for months how a strong dollar and weak energy prices would crush this market and over the last two-days that is exactly what happened. But was this weakness just the start of something far larger, or a feeble knee-jerk reaction to a headline?

While it is impossible to come to the market without a bias, let’s try to put them aside for a moment and look at the facts. Many people are currently predicting a large selloff in the broad market following this $3 drop in oil. Does this outlook stand up to the facts? If we take a step back and review a two-year chart, we will see oil has fallen more than $60 over that time. The bulk occurring in 2014 when the stock market notched a 13% gain. If a $60 plunge in oil failed to crush the equity market, what are the chances this $3 selloff will do it?

Clearly the market is in a half-full mood at is obsesses over everything that is wrong. Weak oil prices mean plunging energy sector profits. The strong dollar is crushing US exporters. That is the story we hear repeated day in and day out. What no one is talking about is the benefits of low oil and a strong dollar. For every loser there is a winner and this situation is no different. Two-dollar gasoline is the same thing as sending a $2,000 stimulus check to the average family. (2 cars x $2 per gal x 12,000 mi / 25 mpg = $1,920) The strong dollar? While that hurts domestic exporters, it is a boon to companies that rely on foreign inputs. Anyone that buys products, parts, and materials from overseas is going to see those discounts flow straight to the bottom-line. Where are all the people talking about the positives of weak commodity prices and a strong dollar? Back in the booming 90’s oil was $15/bbl and 80-cents could buy a Euro. Last time I checked, the 90s were a pretty darn good time to own stocks.

While this fear of weak commodities and a strong dollar is clearly misguided, as traders we have to trade the market we are given. It is foolish to sell these headlines, but that doesn’t prevent the emotional and impulsive from making poor trading decisions. And to be brutally honest, all our profits come from these people so we cannot be too quick to criticize them. But even when we are right, we can still get run over by the crowd so we have to be careful here. The market continues making higher-lows as it recovers from the Fall correction. While this is constructive, we need to be wary of a drop under last week’s lows. That could trigger a wave of stop-loss and reactive selling, pushing us back down to 2,000 support. But if we hold these levels, expect this nervousness to evaporate and position yourself for the Santa Claus rally.

Jani

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