OIL OUT OF FAVOR - time to buy the sector??...

Investors are gloomy towards oil. There is a widespread belief that deepening recession will dampen demand, and of course that is true, but at this point the deepening recession is in the developed world. In the developing world demand for oil is still growing, and most investors are overlooking that.

On its 6-month chart we can see that after Light Crude broke out of its recent downtrend, that took the form of a bullish Falling Wedge, it has continued to mark out what looks like an intermediate basing pattern. The pattern looks like a Head-and-Shoulders bottom forming beneath resistance towards and at the $90 level. Oil looks set to begin an intermediate uptrend soon.

If oil is set to turn up, is it a good point to buy oil stocks here? While oil stocks are certainly attractive generally in that they pay high dividends, and are thus an infinitely better investment than government trash paper that rewards investors with a fat 0 to 1% return, it may not be quite the right time to buy oil stocks here because they have risen significantly over the past couple of weeks in sympathy with the broad stockmarket, and could thus also fall back in sympathy with it over the short-term. If we wait we could time a better entry point. We also need to keep in mind the positions of the exits, because of the lurking danger of a more severe decline in the broad market before much longer.

A better way to play a rise in the oil price over the short to medium-term is therefore to go for ETFs or funds whose performance is directly related to the fortunes of Crude itself. One example is the United States Oil Fund, the chart for which is shown below.

Another is ProShares Ultra Crude. Although the downtrend breakout by this (and USO) is marginal so far and on low volume, and thus it may back and fill a little more short-term, the genuine breakout will be when it gets above the nearby resistance shown and its 50-day moving average. That is when we can expect volume to build.

The latest COTs for oil show that Large and Small Specs have reduced long positions to a comparatively low level. This illustrates the gloom towards the sector, which typically precedes a rally.

United States Oil Fund, USO on NYSE, closed at $32.56

ProShares Ultra Crude, UCO on NYSE, closed at $28.05

Prices are as of the close of trading on 30th November 12.

The following may be off topic, but it is considered worthwhile for all subscribers, especially US subscribers of course, to be aware of this. Watch Everyone in US under virtual surveillance.

Posted at 7.05 am EST on 3rd December 12.