From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Crude oil bulls are back in town!
They kicked the year off by pushing price back above 76 and reclaiming the upper bounds of a multi-year base. Oil is the most important commodity in the world, so it’s hard to overstate just how bullish fresh seven-year highs would be.
But we’re not quite there yet. We still need to take out the fall highs.
The 76 level marks the former 2018 highs and the breakout from a massive reversal pattern. Buyers ran into an overwhelming amount of supply here during the back half of 2021. When they did manage to reclaim those former highs, it was short-lived, and the move quickly failed.
Now that the bulls are back in the driver’s seat, can we expect to finally see crude oil at 100 in the coming weeks or months?
It’s very possible -- especially given one key development in recent weeks…
Energy stocks are on fire! This is the best confirmation we could get for a breakout in crude oil. Now we just need to see it.
Before we take a look at a few industry groups within the energy sector, let’s review a chart of crude oil futures:
The 76 level is the line in the sand. We want to be long above that level on the recompletion of this base breakout with a target at the 2013 highs around 112.25 over the next 1-3 months. Be prepared for a fast move, as our target could come quickly due to a lack of price memory between the Q4 highs and our upside objective.
We only want to trade crude from the long side above 76. All bets are off on a move back below the breakout level.
It can be difficult to step back up to the plate and put on trades in a market that's recently shown us a loss. In this case, we want to give crude oil another try since a long position fits within our bullish structural outlook for cyclical stocks and commodities.
But there's something else going on that supports higher prices for crude right now.
Energy stocks are really working, from E&P names to natural gas and even oil services $OIH. We’re seeing a lot of new highs this week.
Below is a chart of these three industry groups:
When crude oil peaked last October, oil services failed to confirm the breakout. Instead of printing new highs along with crude oil futures, $FCG, and $XOP, it ran into resistance below the first-half highs.
Fast-forward to today, and it might still be stuck below those former first-half highs but it’s trending higher along with other major areas of the energy sector.
The fact that OIH is joining the party is incredibly constructive for the rally in crude and for energy in general. At the same time, it offers a great trading opportunity with well-defined risk and plenty of upside potential.
What looked like a possible head-and-shoulders top is quickly turning into a potential continuation pattern.
If and when price breaks above the right shoulder high of 229.28, we want to be buyers with an upside objective of 313.50 over the next 2-4 months.
Of all the energy ETFs, the large-cap sector SPDR $XLE looks the best right now, as the big integrated oil and gas names have been the leaders. Here’s a daily chart:
As long as we’re above those 2021 highs around 59, the bias is to the upside and we want to be buyers with a 3-6 month target of 79.
And if we’re buying energy stocks as they push toward new highs, what are crude oil prices most likely doing in that scenario?
Well, they’re probably not going down.
With rates on the rise, things are starting to heat up for the cyclical value sectors. Commodities were by far the best-performing asset class last year, and believe it or not, energy was the best-performing sector.
It’s only the first trading week of the new year. But we’re seeing signs of that trend continuing, as investors are increasing their exposure to energy and bidding up the whole space.
Thanks to Charles Dow, one thing we know about trends is that they persist. And this is one trend we want to continue to ride in the new year.
COT Heatmap Highlights
Australian Dollar: Commercials continue to get long the aussie, as they're only a few thousand contracts away from record levels.
Platinum: Commercial hedgers reduced their long exposure last week but are only 10% away from three-year highs.
Palladium: Commercials' long positioning remains near record levels after hitting a historic extreme earlier last month.
US Dollar Index: Commercial hedgers extended their net short position to within 200 contracts of their three-year extreme.
