From the Desk of Ian Culley @IanCulley
Energy futures are beginning to crack under pressure.
Crude oil and gasoline are breaking down to their lowest levels since February. And heating oil isn’t far behind, as it’s challenging the lower bounds of a similar distribution pattern.
It appears that the bears have finally come for energy.
Since we already laid out our short idea for crude oil futures in a recent post, today, our focus is on the energy sector and the implications these breakdowns carry for energy-related stocks.
Here’s a chart of the Energy Sector ETF $XLE:
When it comes to XLE, 80 is our level. It coincides with a shelf of former highs and an area of overwhelming supply. If it’s below those former highs, the energy sector represents downside risk and opportunity cost.
These are two things we do our best to avoid.
Remember, when we buy stocks, ETFs, or commodities, we prefer to buy high and sell higher. The idea is to buy on the way up and participate in a trending market.
As long as the energy sector is trading below 80, the trend in energy stocks is sideways at best. This is even more evident when we drill down to the industry groups.
Here’s a chart of the Oil Services ETF $OIH, the Explorers & Producers ETF $XOP, and Oil Refiners ETF $CRAK:
All three ETFs are chopping around their respective highs from last year after peaking in June. OIH and CRAK have resolved below their 2021 highs, while XOP continues to find support at this key level.
However we look at it, the tactical trend for these industry groups is sideways with a downward tilt.
Support has turned into resistance for OIH at 245. XOP is down more than 25% from its year-to-date highs. And CRAK has fallen back into its former range.
These aren’t bull market stats.
And when we consider the recent action from crude oil and gasoline futures, it’s hard to imagine energy stocks are going to repair this damage anytime soon.
In other words, we wouldn’t expect energy stocks to break back out while energy futures are breaking down.
With the path of least resistance leading lower for top commodity contracts, we have to imagine related stocks will come under increased selling pressure.
And as long as XLE is below critical resistance levels, we must approach energy stocks cautiously.
On the flip side, if we start to see OIH, CRAK, and XLE catch higher and absorb overhead supply, then we’re probably talking about failed breakdowns in crude and gasoline.
Under this scenario, rates are probably rising as commodities and cyclical market areas get back into gear.
That’s not what’s happening today, though. For now, energy represents downside risks. And with the recent breakdowns in crude and gasoline, those risks are only elevated.
COT Heatmap Highlights
- Commercial hedgers continue to hold long exposure at three-year extremes in crude oil.
- Commercials unwound their long positioning in gold by more than 30,000 contracts last week.
- And commercials carry their largest net long position for lumber in three years for the second week in a row.
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