Oil: The Event

June 7th, 2008

WARNING: This is not a recommendation to buy, sell or hold any financial instrument.

Before I begin, I want to emphasize that this market is for experts only. Unless you trade for a living, I wouldn’t go near this either way.

Oil has formed a bullish engulfing candle formation on the weekly chart. It has also broken out of its previous range and closed at a fresh record high. On their own, these are very bullish developments. While the weekly stochastic remains in extreme overbought territory, price levels trump oscillators. Oil strategies should favor long positions ABOVE about $135.20 as long as you remember the state of the weekly stochastic. Below $135.20, consider shorts again, with the premise being that a full oscillation down could be due. Shorts must be managed carefully, as they are countertrend and very vulnerable to squeezes/reversals like we saw today. Consider a straddle if it retries $135.

NEAR TERM: VERY VOLATILE, DO NOT EXPECT SMOOTH SAILING HIGHER ON OIL FROM HERE.

The oil story is being driven by several factors, however, the dollar is the most critical of these. Note below that the U.S. Dollar Index is still range bound. There are two supports directly ahead for the dollar, around 71.90 and 71.40 (see chart below).

INTERMEDIATE TERM: ABOVE $135, BULLISH; STRONG CORRECTION POSSIBLE BELOW $135.

The uptrend is very much intact. If the dollar does not find support between present levels and 71.40, oil will be headed higher. My strategic positioning on the dollar is bearish, regardless of the shorter term, countertrend cranks we’ve been seeing.

I rarely include fundamental analysis in my technical work, but today’s move on oil was so unusual that I went looking for an “event.” Extreme oil moves are usually driven by supply disruption events, but that wasn’t the case today. What single event was potentially behind the largest gap higher in oil prices—ever?

On June 5, 2008 at 5:38 p.m. the Wall Street Journal published a piece about the Ambac and MBIA credit rating downgrades (Cryptogon post here). While the news was circulating before this, I’m using this story as the benchmark. I’ve indicated the release of that news on four hour charts of West Texas Intermediate crude oil, spot gold and EUR/USD. I also indicated the news on the U.S. Dollar Index daily interval chart.

A lot of people are saying a lot of things about oil right now.

Nobody, as far as I’ve seen, has drawn an arrow on an intraday oil chart indicating what happened after something like one trillion dollars worth of debt was downgraded in one fell swoop. I emphasized the point by including several other dollar affected assets.

What do you see?

I see dollars trying to hide in many different places, all at once.


Weekly Interval West Texas Intermediate Crude Oil

Four Hour Interval West Texas Intermediate Crude Oil

Four Hour Interval Spot Gold

Four Hour Interval EUR/USD

Daily Interval U.S. Dollar Index

Posted in Economy | Top Of Page

2 Responses to “Oil: The Event”

  1. Mike Lorenz says:

    Kevin,
    I’m trying to understand this, but most of this post might have well been written in Swahili. Let me see if I get this straight:
    A shit-ton of debt owed by someone to someone else was downgraded from AAA likely to be repaid to (bad?). This negatively impacted the value of the dollar, which in turn jacked up the price of oil (when valued in jive American currency).
    Is that somewhat close to right? Sorry for being so obtuse with regard to the intricate workings of international finance.
    – Mike Lorenz

  2. Eileen says:

    @Mike,
    I can’t speak for Kevin, but I think that oil rises as the dollar falls in value. Also when bonds originating in the U.S. – also denominated in dollars have their credit rating lowered, I think that this means that there is a LOT less likelihood that this bond will continue to perform as promised, and has become close to junk.
    Hence, oil will rise when the value of the dollar falss because OPEC or the markets will set the price of oil to ensure that the spread on the dollar (worth 73 cents versus 100 cents for example) includes the markup for the loss on the value of the dollar.
    When dollars are flying out of bonds because of their unattractive rating, they are going somewhere, who knows where. But dollars left the stock market.
    I dunno methinks the plunge protection team might be deciding to let the markets do what they will. Damage control I think, is futile at this point.
    Things are getting INTERESTING for sure.

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