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Oil Market update

Clive Maund
January 25th, 2007

In his State of the Union address President Bush raised some eyebrows by calling for a 20% reduction in oil consumption over a 10-year period. What he neglected to mention was that this could be achieved by a $120 a barrel oil price, which would not only keep environmentalists happy, but oil company executives too. Oi/gasoline consumption in the US has dropped by 3% over the past year, as a result of the historically high prices during this period.

At this point in time, however, oil is not looking too bullish on the charts, to put it mildly. Having broken down from a 5-year uptrend, oil is either in a bear market, or it has embarked on a lengthy correction to the long uptrend, which could easily last a year or more. However, were there to be an attack on Iran, these scenarios would go straight out of the window.

On the 6-year oil chart we can see the fine 5-year uptrend in oil, and how, after looking like it might be forming an intermediate base above the lower channel line late last year, it broke down abruptly from the uptrend early this month. Failure of the uptrend and failure of an important support level immediately beneath it puts us automatically on the defensive with regard to this market. Oil had become deeply oversold over the past week or so and was entitled to stage a relief rally, which it did yesterday, the occasion for which being the announcement of a doubling of the US strategic stockpile. However there is now heavy resistance at the underside of the trading range that developed towards the end of last year, in the $57.50 - $60 area, which is expected cap to any rally attempt into the foreseeable future.

An appropriate place for a major corrective phase in oil to end would be the support level in the $40 area, and, barring an attack on Iran, it is expected to work its way slowly down towards that, which, as mentioned above, could take a year or more.

Given the severe breakdown in oil itself the way oil stocks have held up has been nothing short of extraordinary. On the 2-year chart for the OIX oil index we can see how, although they did drop, they have not even come close to breaking down from their uptrend. This is believed to be due to the fact that many oil companies have big fat profits still coming through the pipe, coupled with the buoyancy provided by the continuing rise in the broad stockmarket. Thus, even though oil has broken down, oil stocks remain in an uptrend, albeit one that has slowed significantly over the past 15 months. It will be interesting to see if oil stocks can remain in this uptrend in the face of a continuing retreat in oil prices. Investors in oil stocks should watch out for an earnings peak, which we would normally expect to coincide with a top. Oil stocks are also expected to be adversely affected if the broad market uptrend loses traction.

 

Clive Maund
support@clivemaund.com
Jan 25, 2007

Clive Maund is an English technical analyst, holding a diploma from the Society of Technical Analysts, Cambridge and lives in Copiapo, Chile.

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