We wrote recently about the danger of conditional truths. Investors have a habit of compressing complicated relationships into absolutes. “Oil up, stocks down” is one of the more persistent ones. It sounds right and makes sense, at least superficially. Chemicals from oil turn up in plastics, cosmetics, medicines, fertilizers and a lot of other unexpected products. Higher energy costs hurt consumers and act like a tax on the economy. This is bad.

Except it isn’t.

The problem is not that the statement is always wrong. The problem is that it assumes oil prices are a single signal. But oil prices aren’t a cause. Oil prices are an outcome. And like most outcomes in markets, they are the result of multiple competing forces. Treating all oil price increases as equivalent is like treating all volatility spikes as fear. Sometimes they are. But sometimes they are not. The distinction matters.

The best way to think about this is to separate demand shocks from supply shocks.

First, the bullish case. Here oil prices rise because the global economy is stronger than expected. Industrial production is picking up and freight volumes are higher. In this world, oil is not just an input cost. It is also a byproduct of growth. The same forces pushing oil higher are pushing revenues higher. Risk assets do well even with a higher oil price.

You can see this historically. There are periods where oil and equities rise together, not because oil suddenly became good for stocks, but because both are responding to the same underlying driver. Strong demand.

Now for the bad case.

Oil rises because supply is disrupted. Now production is cut or shipping lanes are blocked. Inventories become uncertain. Market participants are not bidding for oil because they want to use more of it. They are bidding because they are not sure they can get it. That is a very different environment.

Here, higher oil is not a side effect of strength. It is a direct drag. It compresses margins. It tightens financial conditions in a way that central banks cannot mitigate. The same price move, a higher oil price, now carries very different information. It is not telling you that demand is robust. It is telling you that supply is impaired.

This is why the simple rule fails. It ignores the conditioning variable. “Oil up, stocks down” is not a law. It is a statement that is sometimes true and sometimes not

And even the supply/demand story is incomplete. There is a third issue. Markets are forward-looking, and oil prices embed expectations about the future. A rise in oil might reflect not current demand, but future expected demand, or future expected shortages. These effects are conflated in a single price, which is why naive correlations between oil and equities tend to disappoint. You are mixing different regimes and hoping for a single answer.

This is also why you see so many contradictory empirical results in the literature. If you change the period or the countries involved the relationship changes. That is not a result of bad data or poor analysis. It is because the question is poorly posed. If you do not distinguish between the sources of the oil move, you are averaging across fundamentally different economic states.

Once you realize this the world becomes simpler or at least coherent. The question is no longer “what does oil do to stocks?” The question is “what is the oil price telling us about the state of the world?”

Cut to the present.

In the current environment, the lazy rule is probably closer to true than usual. This is not a demand-driven rally in oil. It is a supply story. The price is not rising because the economy is booming. It is rising because the market is worried.

A demand-driven oil rally can coexist happily with rising earnings expectations and hence rising stock prices. But a supply-driven rally tends to hurt earnings (present and in expectation). If you insist on using a simple heuristic, this is the regime where “oil up, stocks down” has some chance of working.

Even here, you should be careful (Notice how markets are never driven by just one thing?). Depending on the exact prices, energy producers may benefit. But as a first level effect, the effect on stocks is more likely to be negative when the oil move is coming from the supply side.

The broader lesson is more general.

Prices do not tell you what to think. They tell you that something has happened. An investor’s job is to figure out what that something is and hence what will happen next. Collapsing everything into a single heuristic is tempting, especially when the heuristic works just often enough to feel true. But it is precisely in those moments, when a simple story seems to explain everything, that you are most likely to be wrong.

Oil up can mean growth. Oil up can mean scarcity.

Those do not lead to the same trades. No-one said this was going to be easy.

Disclaimer

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