Oil Market Update

originally published February 11th, 2013

• Oil Market Update
  February 11th, 2013

The oil market has been rather dull for several years now, with traders able to make money only by playing medium-term price swings, which is a reason why we have not had much interest in it. It was definitely a different story from 2007 through mid-2009. We had a massive bullmarket ramp from 2007 through mid-2008, when oil peaked at about $147 a barrel, but that was then followed by a collapse of astounding proportions in the second half of 2008, when it looked like the world was coming to an end, and oil plummeted to about $30 a barrel. The selling was way overdone so oil swiftly rebounded early in 2009 to about $70. That’s when the excitement ceased and all it has done since is plod slowly higher, its marginal gains over time largely cancelled out by inflation. We can see all this on the 7-year chart for Light Crude shown below.

So what now? – there was a breakout by oil stock indices from a large Triangle last month (although this breakout is still suspect), which we will look at lower down the page, which prompted an examination of the oil charts to see what was going on there. There was no such breakout by oil from a similar regular triangular pattern, but there was a breakout from a contracting Triangle, or Fish Head Triangle, which is shown on the chart. This breakout is also suspect at this point because it was not accompanied by a marked pickup in volume as it should have been. However, as we can see, the volume dieback as the Fish Head Triangle formed is positive and both volume indicators shown on the chart are strong, so this advance may have legs after all. On the negative side we also have the now high Commercial short position in oil, which itself suggests that a top is not far away.

Weighing up these conflicting factors ourjudgement is that it is hazardous to go long oil here, although it is alright for existing longs to stay long for possible further gains provided that they protect positions with trailing stops.

The 6-month chart for Light Crude shows recent action in more detail. On this chart we can see the uptrend from mid-December, which has resulted in the price breaking out of the Fish Head Triangle shown on the 7-year chart. We lightened positions about a week ago, having observed the convergence of the channel and the heavy Commercial short position, which proved to be timely as the price backed off last week. This may be only a pause, however, as a less steep uptrend may become operative. We had bought a couple of bull ETFs in oil right at the start of this uptrend. A line of support is evident at and above $95, above which a bull hammer formed last Wednesday, and existing longs may therefore wish to place a protective stop just beneath this at say, $94.70, as a more serious decline could ensue if this support is breached. The lack of volume on the breakout and the high Commercial short position are signs that oil may just have peaked again or be close to doing so, despite the positive price pattern, so longs should exercise some caution here.

Oil stocks are actually looking positive here. On the 5-year chart for the XOI oil stock index we can see that it broke out of a giant Symmetrical Triangle last month, which it had been stuck in since early 2011. Although this breakout could be a false move, especially given the bearish looking oil COT and the toppy looking broad stockmarket, it would be foolhardy to trade against this uptrend at this point, and traders can simply adopt a pragmatic approach of going with it until it fails, employing trailing stops to lock in profits and avoid serious loss in the event that it does fail.

On the 6-month chart for the XOI oil stock index we can see the breakout and recent steep uptrend in much more detail. It backed off last week in sympathy with oil after becoming very overbought, but the reaction thus far looks like a bull Flag, so it may take off higher again soon. Traders long here, or new buyers, can protect positions with an immediate stop placed either beneath the support at 1340 or beneath the 20-day moving average (green). If another upleg develops the stop should be raised to lock in profits.

Lastly we will take a look at the latest COT chart which shows that Commercial short and Large Spec long positions have risen to a high level, which raises a red flag, signaling that an end to this uptrend could be close at hand. These readings could get more extreme of course, but the higher they get, the greater is the possibility of a reversal occurring.

End of report