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The ongoing Russia-Ukraine conflict has once again moved the spotlight on crude oil prices even as stock prices crashed and the rupee depreciated sharply. The reaction of stocks and currency is justified since India imports more than 85 per cent of its domestic crude oil requirement.
The increase in international prices not only impacts the trade deficit and inflation, it also hurts corporate profitability, thus impacting stock prices. The movement of crude oil price should therefore be inverse to that of the rupee and Nifty50. But does this relationship play out in all episodes of crude shock?
We ran a correlation analysis to see the linkage between the crude oil prices and the rupee and Nifty50 over the last 25 years. We found that when crude oil prices move sharply in either direction in a short period (say one month), then the rupee and the Nifty50 move in the opposite direction in many instances.
But when the period of extended crude price shocks are considered (spanning several months), the relationship is very weak during crude price decline. When crude oil prices keep rising over several months, the inverse relation proves right on 2 out of 3 occasions.
Two out of the three periods proved the inverse relationship to be true when crude prices increased
In 1999, a strong increase in demand for crude oil from countries like China and India pushed the price of oil by 215.25 per cent in 19 months. While the Nifty gained by 43.43 per cent during this period, the rupee depreciated by 9 per cent.
In the bull run in 2007, crude oil hit an all-time high of $145 per barrel within a span of 14 months due to tensions between the US and Iran, and unprecedented demand from emerging economies. The Nifty decreased by 4 per cent and the Rupee appreciated by 2.3 per cent.
The Russia-Ukraine tensions this year have accelerated the increase in price of crude oil by 85 per cent in 4 months. Both the rupee and Nifty50 have declined in this period, but not too much.
None of the three periods proved the inverse relationship to be true when crude prices decreased
The Global financial crisis triggered a bear market due to low economic activity that crashed the crude price by 77 per cent from July 2008 to December 2008. The Nifty tanked by 21 per cent and the Rupee depreciated by 9 per cent.
The second instance was when the crude oil price crashed by 75 per cent during 2014 and 2016. Within two years, geopolitical tensions between Russia and Ukraine were receding and US Shale production was booming which sped up the fall in crude oil price. The Nifty dropped by 2.7 per cent and the Rupee depreciated by more than 12 per cent.
The third big drop was in 2020 due to the covid-19 pandemic, and the price war between Saudi Arabia and Russia which fuelled the pace of decline. The crude oil price crashed by 80 per cent, dragging the markets along with it which declined by 21 per cent. The Rupee, too, declined by close to 6 per cent.
The takeaway is that over extended periods of crude price increase or decrease, rupee and stocks do not take a different path since there are many other influences on both currencies and stocks that wield a greater influence. In periods of extended crude price declines, the economic activity is usually weak which influences stocks and currencies too, making them move in the same direction as crude prices.
Short-term correlation
On the other hand, when we look at a shorter period of time, the inverse relationship is much stronger. In May 2000, the price of crude oil increased by $3.14. The negative correlation between crude and Rupee, crude and Nifty was very strong. Similarly in May 2008 and March 2022, one can spot a similar trend where the price of crude had increased by $14.83 in May 2008 and $23 in March.
This holds good even when crude prices drop. The crude oil prices dropped by $16.89 in July 2008 and by $4.45 in January 2015. The negative correlation between crude and Rupee, crude and Nifty is again strong. One can also spot that when the price gain or drop is higher, the negative correlation also becomes stronger.
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