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Weekly Energy Sector Review, Market Outlook and Trading Plan for Final Two Weeks of 2020

Sorry for the lack of energy sector info on the Twitter feed the last couple weeks. I’ve been working more on my macro picture trading and just winding it down for Christmas. I’m probably done for the year in energy, but just wanted to make one final short post for 2020.


The only question I have about this market for the remainder of 2020 is where does this Election/Christmas rally stop? I’m still waiting for a spot to get short the IWM and I think I’m going to get that entry this week. This has been a crazy run that started around election time. If you would have told me back in October that Biden would win a contested election involving court battles, I still wouldn’t have been able to catch this 30% move in the IWM. I don’t follow politics closely, but I don’t think anyone expected this kind of move on a Biden win. But then again, maybe this move isn’t about the election results, but rather stimulus and vaccines.


I have to admit though that I’m pretty bearish right now. I’m not convinced that the vaccine is going to provide the public the safety it wants. There will be new strains of virus and vaccine side effects, and we haven’t even begun to see the media panic when vaccinated people start getting the virus. I think people have that 95% number stuck in their head, but when the true numbers come out, I think that number is going to be much closer to flu vaccine numbers in the 50% effectiveness range. When that happens, the media will once again begin their fearmongering and public confidence will take a few steps back, as will this market. I don’t think this virus problem is anywhere close to being over.


The market also expects more stimulus than I think the government is going to be willing to provide. How long can we keep throwing money at this problem before huge collateral damage begins to start showing? The consensus seems to be about 900 billion right now and then a second round of stimulus when the Democrats gain power. We may get that 900 billion round this week, but I think that’s already been priced in and could be a sell the news event. Another factor that isn’t getting enough attention is the Senate race in Georgia. If the Republicans win those, then there probably won’t be a second round of stimulus getting through a Republican controlled Congress. If the Democrats win those, then the Senate becomes locked at 50/50 and essentially disappears. With a locked Senate, all decisions are then made by Kamala Harris (tiebreaker), who would also have presiding powers over the Senate, as well as the tiebreaker vote. Let’s see how the market handles that situation in a year. I’m guessing it won’t handle it very well when things move from stimulus to tax increases and more frivolous legislation aimed at regulating corporations.


And what about the other black swans that are surely out there? Could we even handle another one? Could we afford it? Could the public survive even more stress and psychological pressure? I’m pretty sure that every troublemaker in the world is going to step up and test the new kid sometime soon after the inauguration. How will Biden respond? Would one of those troublemakers really step over the line into some kind of attack? If someone wanted to push America over the edge, now is the perfect time. Kick them while they are down. These things trouble me and I hope we never see them, but I think you have to account for their possibility in trading. And like they say, it isn’t even a black swan if you can predict it. What happens if there’s a swan that nobody could have ever predicted? I just think this market is priced to perfection right now and there’s just so much that could go wrong. I’m not willing to play these levels on the long side for the last couple weeks of thin holiday trading. Yes, I may miss a big run, but I’m also going to miss any big down move. Sometimes the market just isn’t in a great risk/reward position overall. I’ll wait for the new year.


Quick technical look around the market:

SPY – Watching 372.50 on the upside. If Stimulus gets passed this afternoon, then I think we gap up above that level. If things get delayed, then 362.50 is the spot to watch on the downside. Overall, I think the market probably ends the week within last week’s range between 364.50 and 372.50.


QQQ – Tech is still the place to be and if the market moves to a risk off view, I think money will rush back to big cap tech as sort of a safe haven kind of play. It clearly broke to the upside out of that three month consolidation and 298-300 seems to be solid demand.


IWM – What a crazy run in small caps. As stated for QQQ, if the market moves to a risk off environment, the rotation trade from tech to cyclicals could reverse and take small caps down for a much needed pullback and consolidation. There’s an area between 178-182 that should provide very solid support for any pullback, but that’s still a hefty 10% drop. I’m looking to start in short in the 200-205 range, but trying to be as patient as possible. If trading really is thin this week, there could be a nice FOMO meltup area for an entry short.


XLF and KRE – The financials are following rates very closely lately. The tech to banks/energy rotation has also been dependable. See if those to correlations continue. If financials start to head down, that’s likely a bad signal for energy. Watch the correlation with IWM and TLT for the financials.


GLD and UUP – The dollar continues to weaken and gold finally started to respond positively last week, as did the GDX. I’m not willing to chase gold or the miners up here, but when the dollar does find a bottom, then gold should get a nice pullback for an entry long. Gold also still not following the PDBC (general commodities).


PDBC and TLT – Commodities continue to run and have almost moved through that red resistance level I posted on Twitter early last week. As commodities have moved up, rates have tried to keep pace. The TLT tried to break the downtrend line (with GLD) last week but failed and the downtrend (higher rates) continued. If PDBC keeps going up, rates should continue to follow. As rates continue to climb, at some point that could halt the equity run. Inflation could be coming and the only cure for that would be higher rates. I think there could be a battle with the market trying to push rates higher while the FED desperately tries to hold them down. Powell said on Wednesday he wasn’t moving out in duration to try and control longer term rates, but the market really acted as if he were actually doing that behind the scenes. At some point, he’ll have no choice but to extend duration and try to hold those long rates down. Mortgage rates also remain a target for FED manipulation.


In summary, the macro picture shows commodity prices moving up (inflation) with most of that being caused by a weak dollar. Rates, in response, have started moving up in anticipation of that commodity inflation. The real question for this market is how high would rates have to go before the equity markets get spooked? The FED has quite a battle on its hands and at some point I think the market wins by forcing rates higher, leaving the FED on the losing end of the stick.



I haven’t been trading energy since December 1. Prices have run so far that there’s nothing I’d buy, but there’s really nothing I’d short either. I think the sector may be digesting the latest gains with another run possible on the horizon. I don’t agree with it and I don’t think the economy warrants another run, but the tech/cyclical rotation could still produce enough moneyflow to push the sector a little further. I think we could possibly get a run at the June highs on the next move, whenever that might be. On a longer term view, I’m bearish on the sector. It’s just too much run too fast and I don’t expect that the economy is going to recover like everyone thinks. Of course fundamentals matter less and less these days as the fast money has taken over the sector. The real key will be the reaction when the economy doesn’t recover, will oil be the first thing to get sold off? Are the recent energy buyers long term believers or just fast money year end players looking for quick returns? Time will tell I guess.


The technical picture for the XLE is pretty good. There seems to be good demand in the 36-37 area to stop a pullback. VWAP from November 9 sits around 37.50 and the 50% pullback of this entire move sits around 35.75. If the XLE dropped back under 35, I’d likely be a buyer with a stop around 33.75. If price takes out 32.50, something has probably gone very wrong in the market.


Trading Plan for the Week – My primary target for the remainder of the year is a short IWM play. I’m hoping for a gap up on Monday and a run at 200 to start the scale in entry. There could be another 5-10% in this run which could take it as high as 220, but I’m willing to size in at a level where I can take some pain on this one and then add when it starts moving in my favor. The problem that always arises for me is that these shorts move so fast that you need to at least anticipate for part of the trade for a solid average position price. XLE was a great example back on November 9. If you weren’t already in with a partial long, then entering after the gap up was very difficult, especially on the risk control side.


My second target is still the ITB. It’s not really acting like I thought it would, but I still think if rates start moving up again then mortgage rates may get caught rising which could make new homes too expensive. If consumers are paying higher rates, then that’s less money they have to buy the house and home prices might need to drop to compensate for those extra interest rate charges. On the other side, commodities are getting expensive and those houses are costing more and more to build. If rates rise and costs rise, the homebuilders could get squeezed from both ends. And this doesn’t even take into consideration the longer term outlook for housing. People are paying some absolutely crazy prices for houses right now. Given unemployment levels, I have no idea how people are affording it. Are banks lowering qualifications? Delinquencies have to be rising in this pandemic environment with so many people behind and begging for stimulus. Houses are incredibly expensive and if the market begins to slow and home prices start dropping, how will the system handle underwater mortgages?  And what happens with this supply of houses if the economy doesn’t recover? I think the homebuilders are priced to perfection right now with growth being seen as linear from here. I’m not sure we learned anything from 2007.


That’s really all I have on the radar as the year winds down. It’s been a pretty good year and I’m content just to slide into 2021 and start fresh. No sense in getting hit during a thin holiday market and losing hard earned profits. Much rather spend that time with the wife and family. Hope you guys have all been trading well. Good luck this week.


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