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Energy Trade Plan and Outlook for June 3-7

The bears continued to win last week with the XOP opening Tuesday at 27.19 and grinding a smooth path downward to close at 25.63. The selling was very controlled and orderly, so I’m thinking the bottom isn’t in yet and we will soon get that high volume washout. I’m still watching and waiting on this thing to hit 24 to evaluate and do some buying. I didn’t daytrade energy at all last week and it was difficult to just sit and watch, but hopefully that patience will pay off with some good deals on the long side early this week.

 

The only energy trade that I made was a very small position in HAL at 21.20. It’s just a starter position in a larger scale as services continue to fall. At some point, there will be a volume selling climax and that’s the point to really build the position. I’m not sure where that point will be, but I’m guessing a break under 20 might be it. From a pure risk/reward perspective, HAL is my favorite energy play on this down move.

 

So what’s got energy all upset? I think the demand side of the equation has taken over as the higher concern. The slowing economy, as evidenced by the ten year yield sitting at 2.133, is hitting all resource stocks equally hard. The tariffs aren’t helping either, but as they say “it’s the economy, stupid”. The rise in the TLT, GLD and Yen clearly point to risk off and lower rates coming. Lowering rates has usually stoked the market to new highs, but in the recent past the rate lowering has been used to pump assets up, however this time the rates are being lowered just to smooth out a possible rough landing of the economy. Basically, past rate cuts have been done just to blow the bubble, but the next cut will be to soften the bubble bursting, two totally different things. Be aware that Powell speaks Tuesday, so there could be reaction on rates then.

 

I am adding several of the metals stocks to my watchlist over the next month. These stocks act very similar to energy and usually lead the way down when the economy falters. I’ve added X, NUE, AKS, AA, CENX, FCX and SCCO. These are purely a play on a slowing economy and the FED coming to the rescue for very quick gains. Any resolution to the trade issue or a FED cut would send these flying. The holding period on these might be a little longer than what I usually do.

 

My outlook for the SPY right now is 265, at which point a decision will have to be made. Either the market makes a stand there, or it rolls over and makes another run at the December lows. I think the FED will come to the rescue in the 255-265 range. They won’t let this economy tank. They have been propping the market up for a decade, and there’s no reason to give up on that plan now, especially with the presidential cycle past the midway point. The key on this though is to be a trader, not an investor. When the FED steps in and pumps, be nimble.

 

As for energy itself, you can know all the fundamentals of these companies, but that’s not what really moves them right now. Energy continues to become more largely based on sentiment and macro factors rather than individual company fundamentals or metrics. I see so many guys getting bogged down in well results, IRR, capex, cash flow, etc, however when you take a step back, those things aren’t what’s moving these stocks. If it were, you would see the better companies getting rewarded, however that isn’t happening, they are all move together these days. Energy stocks now make up only about 5% of the S&P and they are just getting caught up in the flow of the overall market.  It’s the same with the actual commodity. The fundamental aspects of individual companies will matter again, but just not right now.

 

This week’s plan: The same as last week’s plan, I’m waiting on the XOP to test that 24 level and then I’m going to start scaling in to my wish list of stocks. The big level for me is the 26 area, possibly 26.30 which was last week’s overall VWAP. I’m thinking we get another test of that area this week, hopefully early in the week. If it tests 26-26.30 early Monday and fails, the next move will be a test of last week’s lows and then a break to 24 to test the late December lows. Once it gets to 24, then the real evaluation will begin. I’ve still got no desire to short this market because it can still have rips like we saw on Wednesday. There are a lot of people short and those squeezes in a downtrend are brutal. Just don’t get involved, the time for a short has passed, don’t chase it down here.

 

A move up and failure is an easy plan, however the more difficult plan is what to do if the market opens gap down Monday and then just keeps going. I really don’t want to see this market head straight down Monday morning because those are the situations that can easily reverse and start an uptrend. It is really hard to establish longs in a risk controlled way when the market makes that sharp V type bottom. I think if the market opens anywhere in the 24-25 range and then moves back into last week’s range, you have to jump on the long side for a bounce move. The stop on that position would be a move back below last week’s range, which is essentially a failure of the bulls to get back into last week’s range. The longer price stays below last week’s range, the more likely we get another down move, so that battle to gain/hold last week’s range is the primary point of interest for the week for me.

 

If we get that 24 test, these are my primary targets on the long side: XOM, CVXHAL, SLB, NOV, MPC, VLO, COG, EOG, CLR, DVN, PE, and MTDR. Depending on price action and how big the decline is, I’d also be interested in these if the price was right: MROAPA, OXY, NBL, RRC, CDEV and JAG. As I said last week, I’m not really interested in dropping too far below this quality/size market cap. Longer term, I’d prefer the XLE over the XOP, and prefer the OIH over the XES. The risk right now in energy is huge once you drop down to the small and micro cap names. I really like some of those names, but I know for me personally, I have a difficult time holding names through a sharp sector wide decline if I have any fear whatsoever of the stock filing a bankruptcy.

 

I have looked at the smaller service names and there are some deals here. Some of these companies will survive and the gains will be be massive for longer term holders. The key though is to avoid the ones who don’t make it. It only takes one bankruptcy to wipe out all the portfolio gains from a good trend run up. For me, there is plenty of juice in the quality names if this market bounces, so there’s just no need to chase or try to hit that home run with these small services companies. If fact, I got bit on one of these a couple weeks ago. I started a position in PES and it just totally collapsed. Luckily the position was still small and the loss didn’t hurt too bad, but it’s a stock that I’ve watched for a long time and really didn’t have any concern with bankruptcy, however if you look at that stock there really isn’t much doubt about what is going on there. No matter how sure you feel about a stock, you never really know the true condition of the company, and sometimes it is just best to stick with quality and take the gains the market gives you rather than gambling on big home runs in risky names.

 

So that’s it for this week, just waiting patiently to see where the bottom is. Looking for the high volume selling climax and then ready to scale into some longs for a FED rescue with either lower rates or the inevitable QE4. It’s sad that this is even a strategy, but you have to take what the market is giving. Now it’s time to enjoy a great Sunday. Wife is at ASCO19 conference in Chicago and I’ve got the whole day to do absolutely nothing and I plan on taking full advantage of that. Good luck this week.

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