A Hundred Bucks a Barrel

Story Outline:

• Oil has finally surpassed the $100 a barrel milestone, creating front page headlines
• But price milestones are largely meaningless—they tell us nothing about market or economic direction.
• Higher oil don't mean stocks must drop—oil and stocks don't correlate meaningfully.
• Today's higher oil prices are being driven by increased demand from a growing global economy.

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Oil surpassed $100 per barrel briefly on Wednesday, and hit that milestone yet again today. Headlines today highlighted this event, warning of trouble ahead.

Can the Economy Handle $100 Oil?
By Moira Herbst, BusinessWeek

Stocks Tumble as Oil Hits $100
Ben Steverman, Businessweek

Oil Hits $100, Jolting Markets
Neil King Jr., Chip Cummins, and Russel Gold

As oil passes $100, the question on everyone's lips is, "What does it all mean?"

Answer: Not much.

As humans, we like imbuing milestones with meaning. On Monday night, many of us donned funny hats, raised a glass, and toasted the very second clocks ticked over to midnight—marking the start of 2008. But why? Nothing actually changes at 12:00 AM, January 1—of any year. We're not altered. The weather doesn't change—it's still winter for those of us in the Northern Hemisphere. Even markets don't care. The only thing that changes is the date we write in our check books—and who writes checks anymore?

It's the same thing with price milestones. When markets—the Dow, the S&P 500—hit nice round numbers, headlines and pundits ponder the meaning. And so it is with oil. But what's the difference between $99 and $100? One percent. Other than that, not much. And why should $100 be any more significant than the $50 milestone? Or $65? Or $92.37?

It's not merely the third digit that has folks spooked—it's the old fear that oil is "too high." Common wisdom tells us higher oil is an economic drag and when oil rises stocks fall. Is it true?

Running a simple correlation on historic data to find oil and stocks do not have a negative correlation—one being up doesn't send the other down. In fact—the relationship between oil and stocks is meaningless. Totally random! It doesn't feel that way because we tend to remember days when oil's up and stocks are down—like yesterday—and disregard days when they both rise (or both fall). Yet all these scenarios happen with similar frequency.

What about the charge high oil is an economic drag? Could oil get so prohibitively high it creates a drag on our energy-driven ingenuity? Sure—but that level is a long way from here. Why? We're actually less energy dependent today than in decades past, not more so. Higher oil prices don't impact us the way they used to. Further, today's higher oil prices are being driven by solid demand in the developed world and rapidly increasing demand from emerging markets, and is symptomatic of a growing global economy. The way we see it, barring an unprecedentedly massive new oil field coming online unfathomably fast (most big new oil fields take about five years from discovery to full production), radically dropping oil prices would be a sign of softening demand—not necessarily a good thing.

Need more proof $100 oil shouldn't spook you?

Single Trader Behind Oil Record
By Staff, BBC News

On Wednesday, oil surpassed $100 (nominally) for the first time in history. Turns out, a single trader inflated his bid, bought the oil, and sold it immediately for a loss. Why? For the bragging rights. Bragging rights should never be the basis for market bets.