Oil and Gas Equities Weekly Review, March 11, 2018
Mar 10, 2018 Trading Blog
Energy is teasing us. XOP consolidation continued this week and we ended at 34.77, or up about 63 cents for the week. The sector got so close to breaking out, but it just couldn’t seem to get over the hump at 35. While the movement itself wasn’t bad, when viewed in the context of the strong SPY movement, it showed a bit of relative weakness. The SPY made a strong run opening at 267.75 and adding over 11 points to close at 278.87. Also, the SPY is trading well above the 50 day ma, while the XOP is still trading under its 50 day ma. Simply put, energy should have done better in this environment and this leaves me wondering if it has the strength to break out this coming week. I’m still neutral on the sector. I want to be bullish, but there are still many things that are holding me back. If we get a failure this week, I could easily slip back into being bearish on the sector.
The XOP needs a strong run this week. If we get an open and run early in the week which then slips back under 35, the sector could easily retest the lows again at the bottom of the range at 33. I would like to see a convincing move up, or even a gap up, past 35.50 which comes back and retests 35 and then turns up sharply. This would act as a rejection of last week’s range and then we could move to establishing a new fair value higher. If we can get that kind of open early in the week, there is a good chance the XOP could make a nice run to 37.
When I dig down into the individual E&P stocks, I see that most of them are still trading below their 50 day moving averages, and many are even still below their 200 day moving averages. Some of the larger names trading below the 50 ma include OXY, DVN, COP, NFX, APA, EOG and PXD. The major integrateds CVX, XOM, BP and RDSA are all still below their 50 ma’s. The biggest, XOM, is even below the 200 ma, and the rest of them are fairly close. Things aren’t looking much better on the services side of the sector either. The OIH is trading just below the 50 ma and right on the 200 ma. If the index is going to break out, these larger E&P’s, Integrateds and Services are going to have to convincingly regain their 50 ma’s. The longer these stocks stay below that level, the more evidence it is that the investing world doesn’t view them as worthy.
One thing that is really interesting is to look at the weekly and monthly energy charts. I’m a very short term trader and sometimes I go for months without looking at these longer term charts, which is probably a mistake. It is amazing to see how far down energy stocks are trading in the big picture, especially when you look at the SPY or QQQ charts. Things like OXY, HES, NBL, SLB, NFX, APA, NOV are trading near the lows of the last 7 or 8 YEARS. You look at something like OXY which was trading at 63.80 in late January 2016 when oil was around $30 a barrel, and now with oil at $60 OXY closed at 63.67 on Friday. Many of these energy stocks show the same story. It is amazing how low this group of stocks is trading compared to the rest of the market, and compared to an oil price which is almost double what it was two years ago. It is almost as if the investing world sees them as an opportunity cost and completely shuns them in favor of almost anything else. I really don’t know what is going to change this in the future. Looking at the much larger picture on monthly charts, it really does seem if the shale revolution completely killed energy stocks for the longer term. The incredible production they have created just makes oil look like an ordinary commodity with no real scarcity value. The incredible debt and lack of cash flow production and profits doesn’t really help either.
As for current prices, you also have to remember that we just went through earnings season and a big group of E&P’s announcing dividend increases and stock buyback programs, and these stocks still can’t get back above their 50 ma’s, nor can the overall sector. Wall Street wanted these buybacks and shareholder value plans, but so far has shown absolutely no intention of rewarding the companies…yet. We really need to see some investing dollars flowing back into the sector soon, or else all these shareholder initiatives are going to become more of an expensive obligation and hindrance rather than a benefit.
We also have oil strongly holding 60, even after builds and increases in production. Almost all of the demand estimates are also strongly supportive for oil. It is a pretty strong statement that oil is holding up this well, yet the XOP can’t break out to the upside. Just a few months ago 60 was a dream. Back then most companies were looking at 50-55 and using that number for their reports and figures. Now we are holding 60 and these E&P’s are still trading around October-November levels. So to put it all together, we have the SPY making a strong run at all time highs, oil holding strong at a dream number that nobody expected back in late 2017, buybacks and increased dividends, yet the stocks still can’t break out. If all that can’t break these stocks out, then what could possibly get the job done?
At this point, an argument could be made for the sector to go either way. We are sitting at an inflection point where we either get a failure or the start of a very impressive run up. While determining which direction the market goes from here is nearly impossible, these inflection points do make the best trading locations. Whichever way someone decides to go, a tight stop can be used which will produce a large risk to reward opportunity. If a bearish trader were to go short here, they could probably use a $1 stop with entry at $35 and stop at $36. The gain on the trade could easily be 2-3 dollars for a nice ratio. A bullish trader might have a more difficult stop placement and a little more limited upside, but could still offer a nice opportunity. On a long, I would probably play the breakout for an entry using $34 as my stop. The safe way to do it would be to let the index confirm a breakout and then attempt to enter as it retraces back to retest the breakout point at $35. In that case, you could probably get away with a 50 cent stop for a $2 gain to $37.
These inflection points are great trading locations where being right is NOT a requirement to making money. These are purely risk/reward math trades where you set up either trade with a 3:1 type payoff. If you consider the direction to be 50/50, then the 3:1 reward makes either direction a worthwhile trade.
Good luck this week.