Energy Equities Outlook and Trading Plan for January 13-17
Jan 12, 2020 Trading Blog
Last week was a great example of why you have to keep your personal opinions about the market completely separate from the actual signal the market is sending. Almost everyone out there thought the Iran situation was going to push oil stocks to the moon, but the initial market reaction on Friday, and subsequent action, clearly told you that the market didn’t see the geopolitical situation as being significant. Every chicken little on Twitter was screaming for the end of the world, yet it wasn’t. Here comes world war three. Just no. The E&P’s finished the week with the lowest close since December 20th. The SPY closed the week making another all time high on Friday. The markets are clearly screaming that the Iran events don’t currently matter. From what I can tell, there are a lot of new energy bagholders out there who let their personal opinions blind them from seeing the true short term message of the market. The market signal pays, your opinion does not.
This past week is also a very clear reason why I gave up Twitter. Almost everybody on Twitter was WRONG. Every news source was reporting their own version of the ‘story’, none of which contained facts. Everyone suddenly became an Iran expert. Being constantly bombarded with a never ending stream of baseless negative opinions is horrible for your trading. It makes you doubt your own thinking, or worse it convinces you to do things that you know you shouldn’t do. Fear is powerful, and there was a lot of fear mongering out there this week. Trading is hard enough without all that stuff. Turn it off, tune it out and trade what you see on the charts. Trade what you see, not what you (or Twitter) think.
So what actually happened with the price action surrounding all these geopolitical events? The buyers from December who caught the recent 20% run up in price were handed an absolute gift and they took full advantage by cashing out their profits. I’m still suspicious that the December buyers had advance warning of a possible event like this, thereby creating the dead cat bounce from 20. After the assassination on Thursday, XOP opened Friday, January 3 with a gap up to 24.38 and the dumping commenced immediately and then continued during the most recent week. Monday was a tight inside day and Tuesday only got a penny outside Friday’s range, so it was also nearly an inside day. That small range which formed with such emotional geopolitical events happening was a clear marker of distribution. Huge supply simply wouldn’t let price move upward and was poured on the emotional buyers, stopping price in its tracks. Then on Tuesday night, Iran bombed the Al Asad military base. This should have caused all hell to break loose in energy stocks, but the XOP opened lower and crashed down. Not only were the December buyers still selling, but now the emotional geopolitical buyers were urgently selling as well.
Wednesday was the trap day. It seems that the “attack” by Iran was simply a safe move to save face and show their citizens that they at least tried to respond. The “attack” was just a show. It was a few missiles sent to a target that the US had most likely abandoned long ago, or at worst had extensively prepared for. Once this became obvious, the buyers from Friday, Monday and Tuesday (as well as the remaining December buyers) all went running for the exit at the same time on Wednesday and continued selling into Thursday morning. Price found some support at 22.84 and bounced weakly. Friday’s action was an indecisive inside day with a tiny 27 cent range, closing almost in the middle of that range at 23.22. This was the lowest closing price since December 20, before Christmas!
The action on Thursday afternoon and Friday was that group of contrarian buyers who tried to hang on to the war narrative hoping that WWIII really was still going to happen. They are still hoping for more conflict and bombs. They bought in hope that things would escalate again. Who knows if it does or not, but if things don’t spark back up soon, those guys who bought Thursday and Friday will likely dump and give up, probably on Monday or Tuesday after a quiet weekend of no geopolitical escalation where they have time to think about their mistake.
Remember, I’m a short term trader. I focus on short term action ranging from hours to maybe 5-6 days. Almost everything I post here is geared toward that timeframe, and if I post a longer term view, then I always try to state that. I don’t know what is going to happen longer term with XOP, all I know is what happened in the short term this past week. Could oil and E&P’s run back up from here? Sure. There were a lot of buyers with nice profits who used these events to cash out. What happens when those guys are no longer blocking the price path? Once these short term events pass, maybe the longer term fundamentals kick back in as they did in December, who knows. All we can really say is that if you bought this past week based on a theory that geopolitical events were going to save these stocks and drive them sharply upward, you were wrong (again) in the short term and you are now sitting with a losing position.
Everyone was wrong in September when the Saudi attacks happened, they were wrong on the November false breakout and they are wrong (so far) again on these Iran events. The market has cried wolf a few times lately, will the buyers even bother to return on the next cry, whatever future event that might be? You have to consider the way other traders might start to view geopolitical events and how they are positioned. The market seems to be building up a tolerance for these events. The geopolitical ‘risk premium’ just doesn’t exist anymore, but many just can’t seem to let their old beliefs go. Think about how other traders see these events, and then use that to your advantage.
Overall Market View
I’ve been focusing almost 100% on the IWM, and the action there this week was concerning. There was simply no demand, but luckily, there wasn’t any supply over the market either. It’s as if everyone ended 2019 and just didn’t come back for 2020, at least not yet anyway. The first 7 days of the year have remained in a very tight range. What should have been tons of money flooding back into the market for the “January Effect” just didn’t happen. Maybe the January effect this year is telling us that the year is going to be one tight range of distribution of the past several years’ gains. The IWM is one of the best measures of domestic business and the real economy. It also mimics the yield curve. It has lagged the SPY and QQQ, however it seems to be sending the same economic signal as the energy stocks. That signal is that the real economy is weaker than what the SPY and QQQ imply.
I’m starting to get the feeling that the run from October was a stealth climax move which will soon lead to a distribution in all markets. Much of my trading is based on the theories and methods of Richard Wyckoff, and this latest action fits the pattern of a buying climax or parabolic action, which normally precedes a sideways “phase B” distribution. The only factor that doesn’t really fit is that we never had that single few days of extreme volume. However, it is possible for a distribution to start without it, and that’s why I referred to this latest run as a “stealth” climax. Maybe it wasn’t just a few days of extreme volume, but rather an extended parabolic run spreading the volume. If you pull back to a weekly chart starting from the 2008 area, the climax and parabolic action becomes more clear. We will have to see how it develops, but if we get a pullback in the next few weeks, the distribution could be on.
This is just my opinion, but a distribution is the most likely path from here, as I don’t think this huge market run is going to end in any sharp crash type action. There are so few holders of a majority of the stock that I think they will be able to skillfully orchestrate a calm distribution before the actual crash happens. With so few players holding the majority of the stock, all they have to do is work together to distribute it. The FED has made sure that they will work together. I don’t think there is a single holder, or small group of holders, that could effectively take this market down by themselves. The selling is going to have to come from one of the major players, and I don’t think anyone wants to be first, as doing so would tremendously anger the FED. The FED gave these holders the money to buy the stock in the first place, and you know that free money came with strings and directives not to sell until allowed to do so. However, once a calm distribution is completed, the crash is likely on, and it could be blindingly fast this time. Keep an eye out for a developing distribution pattern over the next few months, as that could be your only warning of a coming bear market. I’m not saying that a bear market is coming, but rather just pointing out what you might see if it were to happen.
Trading Plan for the Week – I think you have to let the trapped energy traders figure out what they are going to do on Monday before you decide to enter. After seeing the lowest close since December 20, there are many longs who may feel trapped. Most of these longs are going to be very emotional traders who don’t really have a trading plan. They are the types who saw, “WWIII is coming, buy oil”, and loaded up without giving it much thought. Emotional entries usually lead to emotional exits. Let them dump. Maybe this thing sparks up again and pops price to let them off the hook breakeven. Either way, I think there are longs looking to get out early this week, so let them. If you want to get long, take advantage of those trapped traders and let them give you a nice entry point.
Technically, Thursday’s pullback went right to the most logical area. The 22.68 level was important on the way up and acted as nice support on Thursday’s dip. It stopped just a bit short at 22.84, but I think that range boundary is what the market had its eye on. 22.68 will be of major importance this week. If price dips back under it, there’s a good chance it runs right back to the middle of the range at 21.55. The biggest point to watch between the 22.68 and 21.55 areas is 22.20, which is the 50 day moving average and also the 50% retracement point of the December run from ~20. The 22.20 and 21.55 points would probably be the only places that I’d be willing to try a long with size this week. If 22.20 or 21.55 hold, the bulls could return and try to make a stand for another run back toward 24.
If the XOP gets trapped back under 22.68 for any length of time, it will likely retest the lows again in the future. It had every chance to escape the range which began in August and start an uptrend, yet it seems to be failing. This would be the third failure of that level, so this week’s test will be crucial. We had huge EIA draws of 10+ million for a few weeks and all the geopolitical events that an oil bull could pray for, yet the XOP couldn’t create the much needed escape velocity. If those events couldn’t get this thing moving, then what could? In fact, these most recent serious events couldn’t even take XOP past the price level of the September Saudi attacks up near 26. The market is sending a message, all you have to do is listen to it.
In the bigger picture, I believe we haven’t yet seen the final lows in XOP. If you are in this sector for the long term, keep an eye on how far down we go in this range we have created over the last six months. If price gets below the midpoint at 21.55, you should probably get concerned. If XOP gets to new lows, it’s probably going to be helped in that direction by bad economic news. The most likely news is a sharp decline in demand for energy. If you start seeing negative news regarding the demand side of the equation, this sector could finally get that much needed washout into the teens. Keep an eye on the IWM since it closely tracks domestic businesses and consumers. Huge EIA draws, being on the verge of WWIII and $60 WTI haven’t moved the needle. We’re still sitting near 23 with all those positive events. Another concern is the two biggest oils, the generals are still a drag on my bias. XOM dropped well be low that important 70 level, closing at 69.14, while CVX gave up that 119.59 level days ago, closing at 116.44. What happens in energy when all these positive things fade away and negatives replace them?
My bias is definitely bearish, but just to make the oil bulls happy, I’ll throw this out there. If XOP does drop down and test that 21.55-22.68 area and it holds, that would be a positive signal. You could definitely make the argument that this 4.5 point run from the December low around 20 was the first leg in a new uptrend. IF it was, then this first pullback in the new trend is incredibly important. If the XOP gives up less than half of that 4.5 point run, the pullback could produce another very similar leg of 4-5 points to the upside, which would take price to the 27 level. There would be a level at 26 to cut through, but I think 27 is where the next major supply would appear. I don’t think this scenario is what’s going to happen, but it definitely helps to have a picture of what could occur if a bearish view is wrong. If this pattern starts to develop, I’d have no choice but to change my bearish thinking. If you are bullish and this is your theory, then this week should offer a great entry point to take advantage of the second upleg of the new trend.
Ouch, that went 2500 words, sorry guys. The important support points this week are 22.68, 22.20 and 21.55. I’m usually around if anyone has questions or comments, so send me a DM. It’s finally above 60 degrees here, so I’m headed to the winery to sit in the warm sun this afternoon with my wife and a couple bottles, what a great day. Enjoy the rest of the weekend and good luck this week.