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What lower gas prices mean for the market

Talking Numbers

Will lower prices at the pump lead to more consumer spending and higher stock prices?

Conventional wisdom says lower gas prices mean higher stock prices. After all, when it’s cheaper to drive to a store, it’s cheaper to make more frequent trips.

But in the recent past, the data say otherwise. These days, though, conventional wisdom may have it right in the long run.

Since 2006, Reformulated Blendstock for Oxygen Blending – RBOB – has been the traded contract for gasoline on the New York Mercantile Exchange (NYMEX). From the start of 2007 to today, RBOB has a correlation coefficient with the S&P 500 Index of 0.64 (that’s with a p-value of 0.0008, in case you were wondering).

In other words, stocks and gas are more likely to trade together than not. It’s not a perfect relationship, but it’s fairly strong. And, while the relationship was generally stronger over the last five years (0.85 with a p-value of 0.0003), it’s weaker over the past year (0.25 with p-value of 0.054 so, statistically speaking, it’s possible they’re not correlated at all).

(Read: Oil ends lower; US shutdown jitters reverberate)

One possible reason for the long-term relationship – as the economy picks up, the demand for gas goes up, too. But, so far this year, RBOB is down 5.8% while the S&P 500 is up 17.5%.

Talking Numbers contributor Richard Ross, Global Technical Strategist at Auerbach Grayson, has another explanation. “From the lows we set back in March of 2009 until the peak in 2011, all assets were [positively] correlated,” says Ross.

“Remember, we talked about either ‘risk on’ or ‘risk off’, which meant everything went in the same direction, either up or down – in this case, clearly up” Ross explains. “That relationship, or that correlation, starts to break down in 2011. Financial assets like stocks continue to move higher yet commodities like gasoline, gold, silver, [and] copper all peaked and have been moving sideways.”

(Watch: Time to start exporting US oil?)

John Stephenson, portfolio manager at First Asset Investment Management, says there are also fundamental reasons behind the divergence. “I think it is trending lower,” says Stephenson. Besides the end of the summer driving season, Stephenson sees a general drop in demand for oil over the past half-decade.

“We’ve fallen from 21 million barrels a day in the US down to basically 18.5 over the last five years,” says Stephenson said about oil. “I think that relationship is dead between the S&P and gasoline.”

So, where do Ross and Stephenson think stocks will head given this new divergence? Watch the video above to hear the technicals and fundamentals take on the S&P 500 given falling gas prices.

More on Talking Numbers:

Dick Bove loves this bank
Surprise! Here’s why Apple may be a growth stock
Will earnings tank stocks?

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