Oil Market Update
Source: Clive Maund (7/7/10)
"Oil may be in the last stages of a large top area."
While it is of limited use technically, the six-month chart for Light Crude does show recent action in much more detail. On this chart we can see how the steep drop in May resulted in an extremely oversold condition as made clear by the RSI and MACD indicators, calling for a bounce to complete a Right Shoulder, which was called on the site in the article The Looming Financial Holocaust on May 30th, see chart below; the three-year chart is shown above. With the bounce having occurred on schedule the price is now dropping away steeply and menacingly towards the critical support at the neckline of the H&S top—once this support fails oil should plunge.
We have largely avoided oil stocks like the plague for the past several months and when you look at the three-year chart for the OIX oil stocks index, it is easy to see why. This is a truly awful-looking chart with prices in ragged retreat as a large Broadening Top completes, which has been developing since October of last year. Actually, this index broke down last week from this top area, despite the fact that oil has yet to break down—and despite the fact that the bottom support line of the Broadening Top is steep, so heavy losses have already been inflicted. Oil stocks have been terribly weak relative to oil itself, which is due in part of course to the BP fiasco in the Gulf, so they are already quite deeply oversold.
However, bulls drawing comfort from this and diving in that think they're buying at bargain prices are likely in for a nasty shock. For while a minor rally could occur here over the next week or two to alleviate the oversold condition, the ground is likely to open up beneath oil stocks once oil breaks down from its H&S top area—especially if the broad market caves in at the same time, which is what we are expecting. If this scenario unfolds, the OIX oil stock index can be expected to plunge rapidly to the support shown on the chart at the 2008–2009 lows as a MINIMUM DOWNSIDE OBJECTIVE, and it is thought very likely it will crash this support and plunge to lower levels still.
The short-term six-month chart for the OIX index certainly suggests a near-term rebound, as we can see, the steep drop during the second half of June resulted in a deeply oversold condition, with the RSI indicator nudging critically oversold, calling for a bounce; and a large gap has opened up with the moving averages. In addition, we can see that a couple of doji candlesticks have appeared over the past two trading days, which suggest short-term downside exhaustion. However, the larger picture shown on the three-year chart for oil and the broad stock market indices reminds us that the longer-term outlook is grim. Therefore, any near-term rally may be shorted in the reasonable expectation of renewed weakness. Before closing we should mention a factor that could turn an otherwise weak rally into a potential spike, which would be a sudden attack on Iran by Israel. While there are a lot of rumbling noises, this scenario is assigned a low probability over the short to medium term.
We have a good history of calling major turning points in the oil market, and those who listened could have made themselves—or saved themselves—fortunes. The following chart was posted on the site just before the brutal collapse of 2008 began. . .
And last year's substantial bear market rally in oil was called just before it began.
Clive Maund is an English technical analyst, holding a diploma from the Society of Technical Analysts, Cambridge and lives in The Lake District, Chile. Visit his subscription website at clivemaund.com or click here to subscribe.
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Oil Market Update