Cramer: Why this decline in oil is so frightening

Just as Jim Cramer was figuring out the direction of the overall market, the price of crude oil once again broke down and brought the whole market with it.

And Cramer has known for months now that hedge funds will tend to sell stocks whenever oil breaks down, and that is just what happened on Thursday. The reason for this is because they think that whenever oil goes down, then that means the economy isn't strong enough to grow on its own. So if the Fed tightens, the stock market will be in trouble.

"I've always regarded this view as being a tad wrongheaded, because the vast majority of the companies in the S&P 500—close to 85 percent—are inversely correlated to the price of oil, meaning their earnings go up when oil goes down," the "Mad Money" host explained.

Usually lower oil prices are bad for the stock market, but good for the real world. The extra cash in consumer pockets translates to higher purchasing power.

But there is a problem.

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"Now we are in that difficult posture of not gaining from oil weakness through retail earnings or through takeovers in the oil patch" -Jim Cramer

Cramer was thrown off when he saw a stock like Macy's crash right before his eyes on Wednesday, especially since shoppers will benefit from lower gasoline prices. The hideous quarter from Macy's proved that the decline in oil is not translating into additional sales.

"That is what has made these last few days so jarring," Cramer said.

Lower oil prices have now translated as being bad for the stock world, and bad for the real world. Yikes!

What made matters even worse, is that the one saving grace that Cramer relied on didn't play out. He thought that the winning oil companies would start to buy out the losers. For example, everyone thought that Exxon would acquire Anadarko.

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Instead, investors learned that Anadarko approached its rival Apache with an all stock bid. This caused Apache's stock to soar and Anadarko to be hammered. But then Apache vetoed the bid, and both stocks were crushed on Thursday.

"Now we are in that difficult posture of not gaining from oil weakness through retail earnings or through takeovers in the oil patch," Cramer said. (Tweet This)

All of this adds up to higher fears from investors that the Fed will tighten and send the market back to a dark hole of no growth.

Ultimately Cramer thinks oil can hold above $40 a barrel, give or take a few dollars. In the interim, he said, investors should be ready for more pain while it goes lower.

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