Energy Sector Weekly Review
Feb 24, 2018 Trading Blog
The SPY and XOP both had great days on Friday, closing near their highs for the week. The action was as bit suspicious though, as most of the gains were made on a last hour spike in a very low volume environment. I don’t know what or who caused that spike, and I don’t know if it was real or manipulated, but I do know that a spike like that is a warning, so take it seriously and adjust trading plans to protect yourself in the case that it is an impulse that starts a new trend.
I have been bearish for the past couple of weeks, and I’m still bearish now, but you can’t ignore what the market might be trying to tell you. I’ve spent hours reading and 90% of the articles I have read describe oil inventories as being “low” and going lower. I have no way of knowing whether or not this is actually true, but that isn’t the real question. The real question is do most traders believe these articles and does that control their trading decisions? You can be bearish, be right about oil price, be right about the weak fundamentals of E&P stocks, and still lose if your opinion is a minority.
Trading isn’t about being right, it’s about making money and you have to be willing to change your outlook quickly to survive in this game. In fact, even being as bearish as I am, my best trades this week were longs because that is where the opportunity was. A macro opinion is for the purpose of having a sort of North Star to guide you, but it is also for the purpose of using it to draw distinctions between what you think you see and what you actually see. A bias is a tool, nothing more. The real key is your approach to your bias. The best approach is to be on the lookout for things that disprove your bias, but most people oppositely approach it in the wrong way by always looking out for things that support their bias. You can always find things to support your view, but it’s the things that disprove your bias that are always the most useful in trading.
There are many things I saw this past week that are in conflict with my bearish macro view. As I posted last weekend, the two things that would make me change my bearish view would be 1) the SPY moving back to all time highs or 2) oil being sustainable in the $70 area. This past week the SPY and Oil both finished at their highest level over the last 11 trading days.
For oil, we got a bit of a surprise draw on the weekly EIA number and almost every media article is latching on to the low inventory issue. The dollar hit resistance and now looks to be in a range rather than a reversal, which is good for oil price. The ten year yield seems to have topped out for now and might be due to pullback this coming week, which is also good for oil and all commodities. Lower rates are also positive for energy stocks which need to access the debt market. As for the energy stocks themselves, the flow of new dividends and buybacks will continue to draw investing money into them, even though I don’t see this as long term positive. Earnings season is pretty much done, so most of the negative news is probably out of the way. The rig count was decent. One positive that I don’t think people fully appreciate yet is the new tax change and how that influences earnings for energy companies. Another positive is the fact that CAPEX budgets aren’t going up much, which means that the production numbers that everyone seems to be currently freaking out about probably won’t continue. Decreasing production combined with stable demand and decreasing inventories usually doesn’t produce lower prices.
As for the SPY all time high issue, all I have seen is strength there. There doesn’t seem to be any sellers anywhere…yet. Technically, it shouldn’t have recovered this much this quickly, which tells me that there might be more strength than meets the eye. Normally, these types of 10% pullbacks take awhile to digest and form a bottoming structure. Instead, this pullback is looking like a V type reversal. The real test will come when we hit that 285 range and a decision has to be made about whether or not we continue the larger trend or reverse it. I wrote about this several weeks ago when I set forth the issue that maybe this sharp pullback really was just a mechanical breakage rather than a fundamental one. That pullback was heavily associated with some volatility instruments collapsing, which may have been responsible for the selling. The quick bounce back shows that the mechanical breakage has been fixed quickly and that the pullback wasn’t fundamental in nature and therefore the up trend can continue.
The upcoming week has us looking at decreasing oil inventories, continuing strong oil demand, lower rates, weaker dollar, strong overall SPY, buybacks and dividends, along with a great deal of supporting momentum which was kicked off by a very strong impulse wave on Friday afternoon. That isn’t really a recipe for a short thesis. It will definitely be a week of caution and adjustment for me. I’ll post my trading ideas Monday morning.