The 25% correction in the price of oil since its summer peak has put fear and hope into traders' hearts: The fear is that the precipitous drop means the economy is grinding to a halt. The hope is that lower energy prices will click the wheels of commerce back into cruising gear.
On Tuesday, hope trumped fear, as the
Dow Jones Industrial Average
finally closed at an all-time high after flirting with the record for the past week.
Oil's tumble below $60 per barrel was largely responsible for the Dow's heave in the opposite direction. The granddad of large-cap indices gained 0.5% to close at 11,727.34 Tuesday, 4.36 points past 11,722.98, its prior all-time high of Jan. 14, 2000. The Dow hit an intraday record high of 11,758.95.
"You hate to sound
, but this is the generals leading the troops -- the big Dow uglies lead the charge and set new highs and the rest of the market plays catch-up," says Michael Driscoll, director of listed trading at Bear Stearns.
Indeed, while the Dow cruised into the history books, the
gained 0.29% to close at 1334.11, still 12.7% below its all-time high. The
gained 0.27% to close at 2243.65, still 55.6% off of its all-time high. The Dow Jones Transportation Average gained 0.8% Tuesday to close at 4469.46, which is still 10.6% off of its all-time high reached in May.
"If the decline in the oil price is sustained, it is better than a
rate cut," says Ethan Harris, chief economist at Lehman Brothers, who estimates this year's rise in energy prices through the summer caused a 1% hit to individual incomes. So rescinding that tax will add about one percentage point to consumer spending in the fourth quarter of this year and the first quarter of 2007, he says.
The price of oil plunged 3.85% to close at $58.68 Tuesday. Heating oil and gasoline fell 2.36% and 3.33% respectively. Other commodities dropped too, including gold, which dropped 3.6% to close at $581.50 per ounce.
The oil correction is bullish for industrials, transports, consumer staples and consumer-discretionary stocks, says Michael Darda, chief economist at MKM Partners. Indeed, those groups were among the market leaders Tuesday, including Dow members
Darda says crude oil could drop much farther, given its historical relationship to non-oil commodities. In order to reestablish the average price relationship to precious metals, oil could fall back to $47 per barrel, unless metals prices turn higher, he writes.
The oil-price plunge feels so well-timed, it is almost too good to be true. As oil fell in recent weeks, the bad news about the housing market reached a fever pitch, with homebuilders' chief executives seeing no end in sight to the residential-home-market correction, increasing inventories and falling prices. Spurring the Dow to an all-time high not only distracts investors from the weak housing market, but it may draw them back into the stock market, back into the stores and most importantly, boost their confidence in the U.S. economy.
"Low energy prices are doing a pretty good job of offsetting the negative wealth effect from this fade in the housing boom," says Harris.
The Dow leaders were a proxy for the broader market, where the transportation, retail and financial sectors fared well on the back of the day's near 4% drop in the price of oil. Shares of airline companies such as
gained 3.89% and 1.4% respectively.
Retailers, too, are poised to reap the benefits of lower energy prices, as Americans will have more money in their pockets for the holiday shopping season. The lower-end retailers will benefit most in the short-term. Shares of
were strong Tuesday. The S&P Retail Index jumped 1.8%.
Financials, including Dow members
, were also leading Tuesday amid hopes that the economy will come down for a soft landing and that corporate deal making will remain active. The Amex Broker Dealer Index gained 1.1%, while the Philadelphia/KBW Bank Index climbed 0.9%.
were lower on news of lower September sales figures.
reported an increase in sales for the month, and its shares added 1.2% Tuesday.
Energy and mining stocks were also weak following the drops in related commodities. In the Dow,
was the worst-performing stock, dropping 2.52%, and
was runner-up, losing 1.92% on the day. Gold miner
Lower energy prices reads much like the conundrum in place in the U.S. Treasury market. High energy prices put excess money into the hands of oil-producing nations, who, like foreign central banks, have a penchant for U.S. fixed-income assets. This gives the savings-oriented nations more savings, while keeping U.S. interest rates low, which in turn, keeps American pocketbooks flush, and Americans doing what they do best -- spending. That, in turn, gives the exporters more wealth to buy U.S. fixed-income assets, and so it goes.
Indeed, the housing correction has been contained thus far. Consumer spending is still intact, and labor statistics haven't revealed a huge plunge in construction jobs. The jury is still out on how much collateral damage to the economy housing has created, and lower energy prices, with low long-term interest rates, came at just the right time.
"If the economy can weather the hardest part of the housing correction and come out with growth on the upside, that would be a big boost to consumer and business confidence," says Harris, adding that a decline in investor confidence, rather than spiking mortgage rates, caused the housing market to correct in the first place.
If the lower energy prices and the Dow's new high bring back some of that confidence, more power to those big uglies. Who needs a rate cut?
In keeping with TSC's editorial policy, Rappaport doesn't own or short individual stocks. She also doesn't invest in hedge funds or other private investment partnerships. She appreciates your feedback. Click
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