Our Canada reporter on Wednesday recommended an article from the Toronto Globe and Mail “ by the ever- thoughtful David Rosenberg – a Canadian national treasure!” It addresses the mystery of why oil prices and stocks are falling in tandem. Here are extracts from Rosenberg’s article:

Many a pundit [says] the slide in oil prices is negative for the global economy. The action in the stock market, after all, rallied all the way from the early-2009 lows in oil up to the mid-2014 highs. There seems to be a tight positive correlation now between oil and the stock market whereas in the past the relationship was inverse. [I]n past cycles, lower oil prices were a bullish factor for equities. [N]ow the action in the stock market has led many to believe that a recession is around the corner.

The link between oil and the stock market is actually less about fundamentals and more about fund flows – specifically the activity of global sovereign wealth funds. At last count, there were seven oil-dependent countries that control nearly $4-trillion (US) of assets, 54% of the global tally. These wealth funds channelled their petrodollars across the world’s equity markets during the bull run in oil, why there was a tight positive link between crude and stock prices.

This movie is now running backward. Those who claim that ‘break-even’ price levels on Middle East oil are in single digits only look at covering direct production costs and ignore fiscal break-even levels. As per the International Monetary Fund, the fiscal break-even oil price for Saudi Arabia is nearly $96 a barrel (hence a 20% deficit-to-GDP ratio); $68 a barrel for the United Arab Emirates (deficit of 4% of GDP); and $58 a barrel for Qatar (budget gap of 1.5% of GDP).

Estimates [say that], as of the end of 2015, 56% of the assets [of] sovereign wealth funds came from the oil and gas related projects. [A]nd up to 10% of the total money invested was in global markets. [Now] many governments, in the Gulf, Africa, and Asia, have to draw down reserves to cover their gaping fiscal deficits.

The Saudi Arabian Monetary Agency (the kingdom’s investment arm) has withdrawn in the order of $70-bn from external managers in just the past six months to meet social spending requirements. Qatar, Kazakhstan and Norway are in similar predicaments. Norway (the largest sovereign wealth fund in the world) reportedly has shed $1.1-bn of its equity holdings ($58.5-bn in total). Abu Dhabi cut $300-mn from its $3.6-bn exposure to U.S. equities.

So the stock market is telling us nothing about the economic outlook; rather, the sudden sell-off in the past two months represented one giant margin call as the petrodollars deployed into equities during good times are reversed. Oil-reliant governments around the world draw down sovereign wealth fund assets to finance their budgetary shortfalls and support their fledgling economies. [T]he equity market decline is really telling us more about the run-off at sovereign wealth funds than anything nefarious about the economy, especially the US economy.”

David Rosenberg is chief economist at Gluskin Sheff & Associates and writes a daily economic newsletter Breakfast with Dave. (Source: TheGlobeandMail.com)