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CAPITAL IDEAS: Oil prices are collapsing. Are they signaling a recession?

Suppose that in June 2022, I told you that the cost of oil would be 40 percent cheaper in two years. Would you expect that the economy would have been in recession during that time?

The cost of oil has been cut nearly in half in the previous two years. In June 2022, the price of a barrel of West Texas Intermediate (WTI) Crude oil topped $120. The highest price attained in the last year was $94.17. Recently, it has been trading closer to $72.

Suppose that in June 2022, I told you that the cost of oil would be 40 percent cheaper in two years. Would you expect that the economy would have been in recession during that time? Or would you predict that the Gross Domestic Product of the U.S. grew at an annual rate of 2.16 percent? Intuitively, many investors might have expected that companies and consumers were in big trouble. However, the economy, demonstrating its resilience, did, indeed, clock in a 2.16 percent growth rate.

That was then. But do lower oil prices portend tougher times ahead for the economy? It feels like it should, right? However, the decrease in oil prices is good news.

Understanding the context of the price increases is crucial. The surge in prices was a direct response to geopolitical events. Russia’s invasion of Ukraine on February 24, 2022, and the subsequent supply concerns led to a significant increase in oil prices. The price of a barrel increased from $90 in February 2022 to $120 by June 2022. A similar pattern was observed in November 2021, when satellite images revealed a buildup of Russian forces near Ukraine, causing the price of WTI Crude to shoot up from $63 per barrel.

Then, Hamas invaded Israel on October 7, 2023. Following the attack, again out of concern of supply shocks, oil prices advanced 11 percent over the following seven months, peaking in April 2024.

Crude prices have since dropped 15 percent from the April 2024 peak, hitting $73 per barrel—a 40 percent cut in oil prices from two years ago. Is this a sign that oil demand is dropping so much that we should brace for a recession? No. Oil demand has increased year over year since the 2020 recession and is forecasted to do so again in 2024. So why has oil dropped in price?

Despite two large, ongoing wars, global oil production has remained stable and in the hands of decision makers, not supply chain disruptions. Prices had surged in reaction to the instigation of violence, only for buyers to realize that oil was not as scarce as they expected. Additionally, on June 2, the Organization of Petroleum Exporting Countries (OPEC) unexpectedly announced a plan to restore some production, further stabilizing the market.

I do not believe that the drop in oil prices is a signal of a pending recession. Cheaper oil is good news for the economy. Many energy costs tend to be non-discretionary and are the most volatile component of many households’ budgets, so lower prices are good news in that regard. The chart below, from DataTrek, shows us that historically, it has been higher—not lower—oil prices that signal a recession.

Chart courtesy of DataTrek.

DataTrek notes that “the dates in red, sudden spikes in oil prices (80 [percent] or more versus prior year levels) are reliable indicators of a developing recession (1990, 2008), or one that will unfold soon enough (2000). By contrast, periods of declining oil prices (any time the blue line is under the x-axis) tend to occur during economic expansions.”

Lower energy prices bolster household balance sheets and provide relief from inflationary pressures, which makes the Federal Reserve’s interest rate cuts more likely. Lower interest rates would be helpful to parts of the economy and likely boost stock prices.

The Nasdaq hits a new milestone

In a recent column, we discussed the Dow Jones Industrial Average crossing the 40,000 mark for the first time. It took only 85 days for the Dow to advance the 1,000 points needed to move from 39,000 to 40,000; that was a 2.5 percent increase.

The Nasdaq achieved a less auspicious milestone on May 28, 2024, closing above 17,000 for the first time. While not as round a number as the Dow, how long it took to get there is interesting. According to Bespoke, it took 921 days for the Nasdaq to increase the 1,000 points needed to go from 16,000 to 17,000.

Chart courtesy of Bespoke.

The Nasdaq crossed the 16,000 mark for the first time on November 19, 2021. From that date until the two-and-a-half years it took to hit 17,000, it rallied less than 6.3 percent—an annualized rate of 2.3 percent. The Nasdaq is significantly higher than it was before the COVID-19 pandemic. However, this was a plodding march to the 17,000 level.

Chart courtesy of Bespoke.

Bespoke points out it was the fourth longest gap between 1,000-point thresholds on record. In 2021, the technology-heavy Nasdaq was overbought; since then, the index has barely budged from Point A to Point B. As you may recall, the index cratered nearly 40 percent between those two points. Year over year, the Information Technology sector has reported earnings growth of 25.2 percent.

Many of the excesses formerly found in this index have been wrung out. For my clients and myself, I remain invested in exchange-traded funds (ETFs) that are correlated to the Nasdaq Index. Those ETFs include Invesco QQQ (symbol: QQQ), Direxion Nasdaq-100 Equal Weighted (symbol: QQQE), iShares Russell 1000 Growth (symbol: IWF), and Vanguard Growth (symbol: VUG).


Allen Harris is an owner of Berkshire Money Management in Great Barrington and Dalton, managing more than $700 million of investments. Unless specifically identified as original research or data gathering, some or all of the data cited is attributable to third-party sources. Unless stated otherwise, any mention of specific securities or investments is for illustrative purposes only. Advisor’s clients may or may not hold the securities discussed in their portfolios. Advisor makes no representations that any of the securities discussed have been or will be profitable. Full disclosures here. Direct inquiries to Allen at AHarris@BerkshireMM.com. Adviser is not licensed to provide and does not provide legal, tax, or accounting advice to clients. Advice of qualified counsel or accountant should be sought to address any specific situation requiring assistance from such licensed individuals.

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