Market Update: Oil Price Shocks Throughout History Say Duration Is the Key Factor – Full Analysis

Oil prices hit their highest level in nearly four years amid energy disruptions stemming from the Iran war, and history holds some clues about how that will impact markets and the economy.

Brent crude oil jumped above the $100 mark on Sunday night and continued to edge up on Monday. It’s the highest oil has been in nearly four years, since shortly after Russia invaded Ukraine.

Bank of America analysts explained why oil hitting triple digits threatens their inflation outlook, and said that the main takeaway for markets from previous episodes is that duration is the most important factor of any oil shock.

“While market and survey-based inflation expectations can be sensitive to oil at high frequency, history suggests only marked and persistent spikes in the price of crude trigger persistent inflationary cycles,” BofA analysts wrote.

Only persistent oil spikes really matter

The oil-price spike driven by the war in Iran has already been a major shock to markets, with stocks tumbling and stagflation forecasts percolating on Wall Street.

BofA examined the impact of historical oil price movements on US inflation, as measured by changes to personal consumption expenditures, the Fed’s preferred inflation measure.

The analysts said that there are correlations with inflation and oil during other economic crises, such as the 2008 downturn and the COVID-era economic slump. Yet they note that the main thing to watch for is the persistence of the increase.

“We find that only large and persistent spikes in oil prices, which we can usually track to a supply shock, seem to be a leading indicator for a persistent increase in inflation,” the bank wrote.

They added that duration risk rises the longer the Strait of Hormuz remains closed, flagging three key risks they see from higher energy prices.

First is the risk that high-income consumer spending weakens in the event of a stock market sell-off. The K-shaped economy is being propped up by high earners’ robust spending, as equities trade near record highs and compound the wealth effect.

The second risk Bank of America sees is weaker spending by lower-income households. The analysts said that lower-income people are more exposed to oil shocks and higher energy prices could translate into rising credit delinquencies.

Finally, the analysts said that AI capex bottlenecks pose another key risk. They said that delayed investment because of high energy prices could be a headwind for GDP growth this year.

“It is difficult to assess exactly how large and persistent the oil price shock would have to be for these effects to kick in. But in our view, a sustained period of oil prices above $100/bbl (~60% increase) would probably take more than 60bp off GDP growth. And a doubling in oil prices, unlikely as it seems, could cause a recession,” the analysts wrote.