Thursday, October 8, 2009

2 Reasons To Own Crude Oil

This isn't another article about the Dollar is down and everything else is up trade. In fact, if we look at crude oil, it really hasn't done anything over the past 4 months. This is in contrast to the S&P500, which is up over 11% since June. Crude oil is up over 100% from its February, 2009 lows, but it really hasn't benefited from the Dollar's down slide. So what gives?

The obvious reason to own crude oil is that all assets dominated in dollars should move higher as long as the Dollar Index shows no sign of reversing its down trend. But the obvious doesn't always work when it comes to the markets, and it hasn't worked for crude oil. Nonetheless, I believe crude oil is poised to move higher despite its 100% gain this year and despite the fact it has lagged during this phase of Dollar devaluation.

Reason #1: the launching pad

Figure 1 is a weekly chart of West Texas Crude (cash data). The indicator in the lower panel is based upon Larry Williams' "Pro Go" indicator. The idea behind the indicator is to identify those times when retail traders are dominating the market action. With the indicator at extremes, the retail trader has been involved with crude oil for the better part of the year. (Note: good for them.) However, it is in these kind of extremes that the "smart money" or strong hands takes shares off the weak hands. Past extremes in the indicator are noted with the maroon colored vertical bars. In essence and despite the 100% move in crude oil over the past 8 months, I believe that crude oil is on the proper launching pad to move higher.

Figure 1. Crude Oil/ weekly

Reason #2: sentiment

Figure 2 is a weekly chart of West Texas Crude (cash data), and the data in the lower panel comes from the Market Vane Corporation, which publishes the Bullish Consensus. The value isn't near prior extremes but the current value of 39% means that only 39% of newsletter writers and advisors surveyed are bullish on crude oil. From a contrarian perspective, I like that. This is not a crowded trade.

Figure 2. Crude Oil/ weekly

So within the context of moderately bearish sentiment and within the context that the "smart money" is positioning itself for a move higher, I believe crude oil could move significantly higher over the next couple of months. This analysis does not consider any fundamental, supply demand issues, or geopolitical concerns. These factors, while out of my scope of expertise, may be relevant.


dacian said...

As the sentiment towards the dollar is quite bearish (3% bulls only as measured by Daily Sentiment Index) and that didn't had any impact on the trend (it continues to slide), why a a rather bearish sentiment toward oil might work?

Your pivot points based analysis works better than sentiment based; I'm not that impressed by the "pro go" indicator as I see it on your chart (I mean it was impressive in the bubble of 2008, but that doesn't tell me those money were very "smart"; I, a poor-dumb-money-guy, called for lower prices in 2008 because of the big recession we were facing; smart money, as measured by "pro go" were thinking otherwise; how wrong they were!).

dacian said...

oh, and btw, "oil" is also called "the economic killer" (when it moves higher, of course); just for fun...

Guy M. Lerner said...

Dacian: actually the indicator is based upon concepts of Larry Williams' pro go; it isn't pro go itself. The indicator tries to answer the question of where we are on the playing field. The indicator works on multiple assets. The indicator is only meant to identify longer term opportunities; it doesn't get everyone right but that is what technicals are for

You expressed very well what I would have like to say and that is higher oil will likely kill the economy....anecdotally that seems to be the case

Dacian said...

Thanks Guy; actually you're talking about "strong/weak hands" and I was thinking more at smart/dumb. It's not the same thing and at the first view, I don't agree with "pro go" take on strong/weak hands.

It seems to suggest that pros are "strong hands" (or at least those with big money). That is wrong imo; a hand is strong/weak relative to the entry point as it can (or not) support a drawdown on his position.

If I enter today at 70$ on oil I'm a weak hand (by default); if the price of oil moves to 100$, at that moment I'm a strong hand. You see my point...

So a strong hand is not someone with big money/professional. I prefer working with "smart/dumb" concept :)

Guy M. Lerner said...


The idea behind all these indicators --next big thing, the pro go variation, # of weeks under the 40 week moving average---is to determine when markets have the potential to mean revert; nothing stays down forever

With these indicators we are looking at both the y and x axises....just think about it for a moment

Dacian said...

"The idea behind all these indicators
is to determine when markets have the potential to mean revert; nothing stays down forever"

I understand that perfectly, no probleme here.

"With these indicators we are looking at both the y and x axises....just think about it for a moment"

I do and I see timing (on x) and extremes (on y). No problem with that either.

My post was only for the sake of argument; the "pro go" you presented (I do agree, it doesn't matter that much if it's strong/weak/smart/etc) doesn't appeal me from a charting perspective; what I wrote was on the "explanation" of the indicator (you can call John/Paul indicator as far as it works).

Guy M. Lerner said...

D man:

I was just trying to shed more light on the logic behind the indicators; I don't mind the questions and actually I like them because they make me work harder - to explore more

I spent 3 hours last nite looking at these very same ideas and concepts