The technical side of the crude oil market coupled with weak equity markets is taking center stage as geopolitics have gone a bit quiet while the fundamentals of oil have become a drag on the uptrend.
But will the above two drivers be enough to keep oil prices in the long term up trend or are we due for another serious correction like in 2006?
Crude oil soared in the first half of 2007 due largely to problems in the U.S. refining sector. By mid-July refineries were back at normal levels and the technicals began to break down. This, along with weakening fundamentals, pushed WTI to the lower end of the medium-term trend line that has been in place since early 2007.
Crude began to break-down after making an all-time high at $78.77 per bbl. in early August. The selling has carried prices down below the key support area of $70 and could now test the next support level of about $67. This type of consolidation pattern normally is indicative of the market developing a bottom, which may have happened as crude rebounded after taking out support and now looks to test the high.
As of mid-August a technical breakdown throughout the oil complex with both gasoline and heating oil falling below their longer term uptrend line support area has occurred. In addition, the spot Nymex WTI chart is closely following the same pattern that existed in 2006 (see “Repeat performance?” below). So far many of the conditions that ultimately pushed WTI prices down into the mid $50’s in 2006 are already in place.
Although many conditions are the same as in 2006 there are still several factors that are different. Numerous fundamental factors could stop a repeat of the 2006 correction, including: a late hurricane season storm entering the Gulf of Mexico; if OPEC reacts to declining prices (either actual or as a result of dollar weakness) by increasing compliance to existing production cuts or makes further cuts; another round of unscheduled refinery problems; or a flare up in any of the geopolitical hotspots in the world.
WTI is likely to follow last year’s pattern unless some combination of the above materializes. Draw a trendline from the January low to the Aug. 22 low and buy any break of this support level with tight trailing stops as reversals can come at any time from any of the above potential upside market drivers as happened in late August.
Dominick A. Chirichella is a director for the Energy Management Institute, www.energyinstitution.org where his daily market commentary on the direction of the energy market and other energy trading subjects appear. He has been involved in the energy markets for over 37 years. E-mail him at: dchirichella@mailaec.com.
