Post by TradingForGod on Aug 21, 2004 11:38:02 GMT -5
Arguably the biggest questions facing the economy right now are how high energy prices will go, and how chronically high prices will affect the rate of economic expansion. I am no economist. I am just a technical trader. So I will leave it to the deep thinkers to wrestle with the macro-economic uncertainties of the relationship between oil prices and economic growth. But I will try to wrestle, and wrestle is the word, with the question of how high energy prices might go. But first a little history.
From its low just over $10 in late 1998, West Texas Intermediate (WTI), the US benchmark crude type, has almost quintupled in value. There aren’t a lot of things that increase in value five-fold in less than six years. But that’s sometimes the nature of commodities markets. Demand goes up or supply goes down or both, and price has to compensate. In the 1973 Arab Oil Embargo, crude went up in % terms much faster than today. In the lead up to the Gulf War, prices more than doubled in just three months. And on the downside, the Saudi netback pricing policy in the mid-80s cut oil prices by 2/3 in four months. What makes this rally unique is that there has been no real “supply shock” to cause it. Certainly Iraq is producing well below its maximum capacity, but that’s no different than when crude was trading $20/bbl. But something is sure different.
For the entire decade of the 1990s, crude oil traded at an average price of about $19/bbl. Yes, there were spikes like the Gulf War and big dips like the 1998 price collapse (remember sub-$1 gasoline?). But if you looked at a VERY long term moving average, it was pretty much flat at about $19. Prices spent as much time above the average as below it. But since the turn of the century (isn’t it hard to think of that as a recent event…I still think of that as from the 1800s to the 1900s…I guess I really am old), there has been a radical shift. World energy prices have been in an unprecedented uptrend. The long-term MA that was flat for a decade is pointed sharply higher now. Even in the absence of a “see change event” (the Iraq War does NOT count), prices have been in an unremitting, though choppy, uptrend for six years. This rally seems to have been caused by the growing realization that there has been a fundamental tightening of the overall supply/demand balance for energy.
The weekly chart below shows just the most recent leg of this uptrend. Going back to late 2001, crude prices fell to $17 from a high of almost $38 just a year earlier. And that peak was a low of $10 just two years before that, so the seeds of this high volatility were planted years ago. Prices rallied to $40/bbl in early 2003, with a $15 increase coming in the three months leading up to the Iraq War. When it became apparent that the Iraqi oil fields were safe, prices collapsed dramatically, at one point falling $10 in a week. Now THAT’S volatility. After about six months of choppy, sideways price action, crude started to really rally in Sep’03. It was at about $27 then, and within nine months it was $15 higher at over $42, what was then a new all-time high. A number of technical analysts, myself included, called for a reversal lower at that point because there was a severe momentum divergence on the daily chart and the daily MAs had flattened out. Plus, the speculative “funds” were very long energy then and had spent almost a month with no net appreciation. They took the opportunity to take profits and prices fell back almost $7 in a little over a month. You probably remember gas prices falling a little right before the 4th of July.
From there, prices have rallied at ever increasing speed. This week, crude for September delivery expired at almost $48 after briefly trading up to 49.40 early on Friday. The chart below shows that this is right at the top of a parallel channel off the ’01 and ’03 lows. In addition, it is also right at the “normal” swing target from the big rally last year (dashed blue line). Crude oil has achieved pretty much every conceivable target, and then some. The rally over the last two months has taken on the characteristics of a “blow off top” with panic buying evident. These types of rallies almost always end with an explosive crescendo and are followed by an equally implosive collapse.
So am I saying the top is in? Not at all. It MIGHT be. It certainly COULD be. But trying to call the top of a runaway market is one of the toughest things a technical trader can try to do. Right now all I can do is point out things to look to give clues the reversal is upon is. The first will be a violation of SOME moving average support. You can see from the chart above that prices are well above even the fastest MA. This is true of the daily chart as well. The 7-week MA (orange line) should be at about 44.60 next week. A weekly close below there would be the first in two months and could trigger a big sell off. Note how in early 2003 a close below this MA immediately preceded a huge collapse in crude prices. I am really going to be watching for this.
Another thing I am watching is the net long position of the “spec” traders. The Commodity Futures Trading Commission (CFTC) puts out a weekly Commitment of Traders report that shows long and short positions divided by Commercial and Non-Commercial traders. While these categories are very broad, in general the Non-Commercials are thought to be more speculative traders rather than companies hedging a physical position to satisfy a business need. For instance, an oil company selling crude to lock in a profit on their oil production would be a hedger, a “Commercial” trader. A hedge fund who is long crude oil just because they think it is bullish would be a speculative trader, a “Non-Commercial.” Anyway, back in June before the $7 sell off, the specs were very long energy futures. Right now, with oil prices $7 higher that back then they are only about ½ as long. It seems that the specs are using this most recent rally to reduce there long exposure. Back in 1998 as oil prices pushed down to $10 the same thing happened. The specs had been very short, but as prices made their last dip they got out of most of their positions. This behavior could be a sign of an impending reversal too.
Also, oil issues like Exxon/Mobil, Chevron/Texaco, etc. are all well off their recent highs even as crude prices have continued to climb. Is the market smart enough to begin discounting future oil company earnings because it believes oil prices are about to head lower? This is something to watch as well.
But frankly, unless there is some “event” like peace breaking out in the Middle East, I think we are at least a week away from any kind of major reversal. The moving average structure is still too bullish and the ADX trend indicator is too strong. We may not go much higher from here (though we might), but I think prices have to spend a little more time in this general area before they have a chance to stage a meaningful reversal. The trend is your friend, and right now the trend is decidedly up.
The next time we talk about energy, I will look at a much shorter term view as we try to hone in on a reversal set-up.
Blessings to you all,
TFG
From its low just over $10 in late 1998, West Texas Intermediate (WTI), the US benchmark crude type, has almost quintupled in value. There aren’t a lot of things that increase in value five-fold in less than six years. But that’s sometimes the nature of commodities markets. Demand goes up or supply goes down or both, and price has to compensate. In the 1973 Arab Oil Embargo, crude went up in % terms much faster than today. In the lead up to the Gulf War, prices more than doubled in just three months. And on the downside, the Saudi netback pricing policy in the mid-80s cut oil prices by 2/3 in four months. What makes this rally unique is that there has been no real “supply shock” to cause it. Certainly Iraq is producing well below its maximum capacity, but that’s no different than when crude was trading $20/bbl. But something is sure different.
For the entire decade of the 1990s, crude oil traded at an average price of about $19/bbl. Yes, there were spikes like the Gulf War and big dips like the 1998 price collapse (remember sub-$1 gasoline?). But if you looked at a VERY long term moving average, it was pretty much flat at about $19. Prices spent as much time above the average as below it. But since the turn of the century (isn’t it hard to think of that as a recent event…I still think of that as from the 1800s to the 1900s…I guess I really am old), there has been a radical shift. World energy prices have been in an unprecedented uptrend. The long-term MA that was flat for a decade is pointed sharply higher now. Even in the absence of a “see change event” (the Iraq War does NOT count), prices have been in an unremitting, though choppy, uptrend for six years. This rally seems to have been caused by the growing realization that there has been a fundamental tightening of the overall supply/demand balance for energy.
The weekly chart below shows just the most recent leg of this uptrend. Going back to late 2001, crude prices fell to $17 from a high of almost $38 just a year earlier. And that peak was a low of $10 just two years before that, so the seeds of this high volatility were planted years ago. Prices rallied to $40/bbl in early 2003, with a $15 increase coming in the three months leading up to the Iraq War. When it became apparent that the Iraqi oil fields were safe, prices collapsed dramatically, at one point falling $10 in a week. Now THAT’S volatility. After about six months of choppy, sideways price action, crude started to really rally in Sep’03. It was at about $27 then, and within nine months it was $15 higher at over $42, what was then a new all-time high. A number of technical analysts, myself included, called for a reversal lower at that point because there was a severe momentum divergence on the daily chart and the daily MAs had flattened out. Plus, the speculative “funds” were very long energy then and had spent almost a month with no net appreciation. They took the opportunity to take profits and prices fell back almost $7 in a little over a month. You probably remember gas prices falling a little right before the 4th of July.
From there, prices have rallied at ever increasing speed. This week, crude for September delivery expired at almost $48 after briefly trading up to 49.40 early on Friday. The chart below shows that this is right at the top of a parallel channel off the ’01 and ’03 lows. In addition, it is also right at the “normal” swing target from the big rally last year (dashed blue line). Crude oil has achieved pretty much every conceivable target, and then some. The rally over the last two months has taken on the characteristics of a “blow off top” with panic buying evident. These types of rallies almost always end with an explosive crescendo and are followed by an equally implosive collapse.
So am I saying the top is in? Not at all. It MIGHT be. It certainly COULD be. But trying to call the top of a runaway market is one of the toughest things a technical trader can try to do. Right now all I can do is point out things to look to give clues the reversal is upon is. The first will be a violation of SOME moving average support. You can see from the chart above that prices are well above even the fastest MA. This is true of the daily chart as well. The 7-week MA (orange line) should be at about 44.60 next week. A weekly close below there would be the first in two months and could trigger a big sell off. Note how in early 2003 a close below this MA immediately preceded a huge collapse in crude prices. I am really going to be watching for this.
Another thing I am watching is the net long position of the “spec” traders. The Commodity Futures Trading Commission (CFTC) puts out a weekly Commitment of Traders report that shows long and short positions divided by Commercial and Non-Commercial traders. While these categories are very broad, in general the Non-Commercials are thought to be more speculative traders rather than companies hedging a physical position to satisfy a business need. For instance, an oil company selling crude to lock in a profit on their oil production would be a hedger, a “Commercial” trader. A hedge fund who is long crude oil just because they think it is bullish would be a speculative trader, a “Non-Commercial.” Anyway, back in June before the $7 sell off, the specs were very long energy futures. Right now, with oil prices $7 higher that back then they are only about ½ as long. It seems that the specs are using this most recent rally to reduce there long exposure. Back in 1998 as oil prices pushed down to $10 the same thing happened. The specs had been very short, but as prices made their last dip they got out of most of their positions. This behavior could be a sign of an impending reversal too.
Also, oil issues like Exxon/Mobil, Chevron/Texaco, etc. are all well off their recent highs even as crude prices have continued to climb. Is the market smart enough to begin discounting future oil company earnings because it believes oil prices are about to head lower? This is something to watch as well.
But frankly, unless there is some “event” like peace breaking out in the Middle East, I think we are at least a week away from any kind of major reversal. The moving average structure is still too bullish and the ADX trend indicator is too strong. We may not go much higher from here (though we might), but I think prices have to spend a little more time in this general area before they have a chance to stage a meaningful reversal. The trend is your friend, and right now the trend is decidedly up.
The next time we talk about energy, I will look at a much shorter term view as we try to hone in on a reversal set-up.
Blessings to you all,
TFG
for opportunities to put the information to work.