The conventional wisdom dictates that high oil prices negatively impact the economy and stock market, as they hinder consumers' spending power. However, upon closer examination, the situation may not be as straightforward, and the stock market could still thrive despite soaring oil prices.

WTI crude oil has experienced a notable increase of approximately 17% since mid-August, reaching $91 per barrel. Interestingly, the Federal Reserve's recent observation of a slower pace of inflation has led to speculation that the central bank may potentially halt its interest-rate hikes. Such a development would help bolster economic demand. Demonstrating this trend is the fact that retail sales in August recorded a 2.5% year-over-year increase, defying concerns of an impending recession.

Nonetheless, the surge in oil prices has its downsides for consumers. With higher gas prices, individuals are left with less disposable income, ultimately hindering overall economic growth.

It is often assumed that elevated oil prices coincide with a decline in the stock market. Presently, the S&P 500 has experienced a minor decrease of about 3% since August began. However, it is important to distinguish between a temporary market pause amidst an ongoing double-digit-percentage rally throughout the year and a direct correlation between oil prices and stock market performance. Despite appearances, these factors may not be intrinsically linked.

Correlation vs Causation: The Impact of Oil Prices on the Stock Market

In recent weeks, the equity-market correction has led many to question the relationship between oil prices and the stock market. According to Evercore strategist Julian Emanuel, it's important to remember that correlation does not always imply causation. Higher oil prices, contrary to popular belief, may not necessarily be a major problem for the stock market.

To support his argument, Emanuel refers to historical data from 2010 to 2014. During this period, the price of oil rose significantly from $70 a barrel to over $100, while the S&P 500 experienced a remarkable 50% gain. The key takeaway is that higher oil prices often align with strengthening consumer demand and a robust economy, ultimately driving corporate profits higher.

In the mentioned timeframe, the economy was flourishing, and consumer confidence surged from a reading of approximately 65 to around 80. Similarly, this year alone, consumer confidence has risen from roughly 95 to just over 100. This data suggests that as oil prices increase, more people may be hired, leading to increased incomes and boosted consumer confidence, ultimately resulting in greater spending power.

Contrary to conventional wisdom, rising oil prices can actually coincide with a rising stock market. This possibility is worth considering moving forward.

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