Clive P. Maund
gold, silver, & oil shares

Oil Market Update

originally published August 6th, 2014

Oil has been a dull market for years now, with the price trapped in a relatively narrow trading range, which is why we haven’t paid it much attention in the recent past, but there are signs that this is set to change soon.

On the 8-year chart for Light Crude we can see that, after the fireworks of 2007 through early 2011, when oil was a huge play first on the upside, then on the downside and then on the upside again, when it recovered from being ridiculously oversold, it has run off sideways into a relatively narrow trading range that has taken the form of a gently Ascending Triangle. While Ascending Triangles are normally bullish, that is not considered to be the case here, because the rate of ascent of the price has been so gradual that it has been cancelled out by inflation, and also because the COTs for oil now look bearish, which we will come to a little later. Since early 2011 there has been little opportunity to make money in the oil market, unless you were able to catch the swings exactly, or wrote options when the price reached the top or bottom of the range, otherwise it has been a waste of time. Over the past month or so oil has been surprisingly weak given what has been going on in the Mid-East, which does not augur well for the price going forward.

On the 6-month chart for Light Crude we can see that, after a false breakout in June on the ISIS rampage in Iraq, oil turned surprisingly weak, dropping back into pattern. Then it had a sharp bounce on the downing of the Malaysian airliner before turning soft again and dropping sharply over the past week. Oil is quite oversold now and could bounce, but on long-term charts it looks like it is weakening now, and long-term charts also reveal that in adverse market conditions it can get a lot more oversold than it is now.

The oil COT chart, which was extremely bearish by the end of June, has eased back significantly, but not enough to prevent further losses. Here we should note that, historically, readings are still at very bearish levels, despite the easing of recent weeks.

Some of you may have seen a video presentation by Dr Kent Moors, a self-proclaimed expert on the oil industry, who makes a case for a sharply rising oil price based on the Mid-East descending into a regional conflict with the SHIITE and SUNNI Muslims engaged in an all-out war for supremacy. He goes on to say that in this environment, oil companies whose production is based in the US will do really well. Our comments on this are firstly that Dr Moors appears a lot on the mainstream financial news networks, which as we know exist partly to set up the little guy to be fleeced. Secondly, he makes no mention of what would happen to oil and oil stocks if stockmarkets were to crash, which is our expectation. If they do, then investors will “throw out the baby with the bathwater” as they always do, and everything will get dumped over the side, including oil stocks – and they have a long way to fall from here. Sure, the Mid-East could degenerate into a regional war which could drive oil prices a lot higher, but that would probably take a lot longer to happen than a stockmarket crash, which is growing more likely with each passing day.

Oil stocks have fared considerably better than oil itself in recent months, which is due to them being seduced higher by the continuing advance of the broad stockmarket, and perhaps also due to the stocks in the index we are looking at, the NYSE Arca Oil Index or XOI, being largely companies that are US based and thus more attractive to investors at this time for the reasons set out by Dr Moors – that won’t save them though if the market decides to cave in, and we are already seeing significant signs of deterioration.

On its 8-year chart we can see that the XOI index even made a new high in June, although it was marginal, but unlike oil itself its subsequent reaction has been modest – so far. However recent action looks bearish, which we will now look at it in more detail on the 6-month chart for the XOI. In the last update we had thought that it might make it as far as the upper boundary of the resistance shown, but it overshot a little thanks to the ISIS business, before reaction set in.

On the 6-month chart for the XOI index, we can see that the initial reaction back from the June highs was modest, and it found support above its 50-day moving average and turned higher, but the 2nd reaction of the past week or so looks more serious and has inflicted technical damage. It has involved several large bearish candlesticks and has broken the index well below its 50-day moving average so that it is now testing hard the support level shown – if this support level fails the index could drop away steeply, especially if such a breakout is triggered by the broad stockmarket caving in, and the long-term chart for the XOI shows that oil stocks can drop a long, long way from present levels.

We have already noted that oil stocks have outperformed oil for quite a while, but the chart presented below shows that this period of outperformance may be about to reverse into underperformance. The chart, which shows the XOI index divided by the Light Crude price going back 3 years, reveals that this ratio has arrived at the upper boundary of a large wide uptrend channel, making it very likely that it will turn down now, and that oil stocks will underperform crude. This is another sign that the market as a whole may be about to tank – and take oil stocks down even faster than oil itself.

End of update.