Prepare to trade commodities Part 3 – where to for oil?

This is a transcript for the third part of the series on trading commodities, which I recorded in March. I have included additional detail from the original analysis, as well as an update based on the recent price action.

If you would prefer to listen to the podcast click here, otherwise find out what my analysis says about oil below.

You can also listen to all previous podcasts here.

In this podcast, I will talk about the history of the movement in the oil price, more so than the drivers behind it. Then I’m going to use history to consider possible scenarios for where the oil price may trade to in future.

Firstly, as a technical analyst and trader, you rely on your data being accurate, particularly for fast moving markets like commodities, otherwise what good is your forecast? For this reason I believe in paying for good data. I’ve been using Market Analyst software for years and I rely on the data that Market Analyst provide.

Market Analyst is the software we provide you when you study our Diploma of Share Trading and Investment.

Remember, if you currently trade the market, it is very important that your data is from a reliable source, and that it’s up to date. However, many traders fail to give this a second thought.

Sometimes amendments will be made to data, and therefore it is a good idea for you to check that your data is up to date before you start your analysis on stocks, markets, currencies, or commodities. A good software program will allow you to download the current data to confirm that what is stored on your pc is complete.

Now, when carrying out your analysis, you really ought to look back at least 10 years, however, I generally suggest that you use all available data to come up with a big picture view. In the case of the Crude Oil Futures chart, I have gone back 30 years. What is interesting is how 2007/08 wasn’t the first time that the oil price went for a very wild ride.

What does the data show?

The historical data shows how the oil price made a low in 1990, before rising approximately 173% in approximately four months, which is an incredible move. It then fell just as dramatically, wiping out prior gains in around the same time.

Now, although the oil price did make a partial recovery for a time, overall it was really just trading in a long term decline. And the fall continued through to late 1998, or around 8 years later, where it formed a low. The overall decline was around 75% from the prior high, shown on the current chart at $41.15.

Comparing this to more recent times, in 2007 through to around mid-2008, the oil price rose by around 195%, which is similar to the prior run in terms of the degree of the rise, however the move occurred over a much longer time, being around 18 months. The subsequent fall occurred in just 6 months in 2008, representing a decline of around 78% from the prior high, at $147.27.

So what happened next?

Since the fall, the oil price rebounded to around $115 per barrel in 2011, or approximately 250%. From there, oil traded sideways between $75 and $110 per barrel, before falling away strongly in late 2014 to 2015. What is interesting right now is how the price has recently been trading below $45, just above the 1990 high on the chart, which represents a decline of 63.6%.

All rises were between 175 and 250%, and the falls 63.6 and 78%.

While no one has a crystal ball, what you need to learn is how to determine what is likely to occur in future, or a couple of scenarios for how any stock, market, currency, or commodity may unfold. When you study our courses you will learn what some of the most important aspects of price, pattern, and time analysis are and be able to apply them to any situation to do this.

You may have heard myself or Dale talk about the most important levels of any stock or market, one of these being 50% of the all-time-high (ATH) price, which for Crude Oil was $147.27 in 2008. However, there are times when price will fall right through this level, and other levels will be more important. In the case of oil, it didn’t even slow down as it fell through 50% in November last year.

What was a major driver?

At the time, OPEC made a decision not to stop pumping out more oil, which caused a dramatic slide in the oil price. Of course, the collapse in oil is not all bad news, as cheaper energy provides gains for countries that are net importers of oil, including Australia and China. It has been estimated that for every 10% fall in the oil price you could add between 0.1-0.5% to the country’s growth.

While that is the upside, the downside is that a falling oil price that stays low creates major problems for energy companies and could result in some companies defaulting on their debt.

Back to the oil price. The next level of support that I had marked on my chart was between $56 and $62. The analysis indicated that the oil price may find support there, but instead it fell like a lead sinker to $43.58 in January this year.

What you ought to be watching out for is what happens over the coming month, as there is some support for oil at around $48 (the forecast for April). However, if it were to drop back below the January low there is a real risk of a continuation of the decline to between $25 and $37.

Overlaying the way oil has unfolded in the short to medium term, as well as the longer term analysis, indicates that this zone is not out of the question for this year, and possibly into 2016. However, there may be a rebound before it reaches this zone, and that will provide more information to continue building the picture. Currently, the worst case scenario would be around $20.

What you have to consider when looking at the oil price is what does this mean for the related stocks?

History tells us that there will be opportunities in future to buy energy companies at very low prices. However, right now would be a high risk time given that a bottom for the oil price is not yet confirmed. That means keep an eye on stocks in this area and have your analysis up to date while you wait for a lower risk time to trade.

This is a good time to learn how to select stocks to trade.

To learn the basics click here.

Right now then, consider looking for good companies for your watch list that are in areas likely to receive a benefit from low energy prices. These would include transport, mining, agriculture, manufacturing, and possibly consumer spending.

Over the coming months we may see the oil price find support and rebound, however, I would think it unlikely for oil to trade above $60 in the short to medium term. If it did, the price may struggle to remain there. An early indication that a short term rebound could occur would require the price to close strongly above $50 over a couple of weeks.

Oil update

Commodities prices are changing constantly, so it is important to be able to quickly assess what is going on.

Looking at the monthly chart over the past few months, oil has opened and closed at around the $48 level, as an indication of support at this level, and before rising strongly towards $60.

Currently, oil appears likely to break through this level, or at least trade close to it, before pulling back to test prior support. This test will provide further information to allow the short to medium term target to be refined. However, if support is soon confirmed it is possible for oil to trade to around $70 in the second half of 2015. Alternatively, a strong close back below $48 at the end of any week would indicate a further decline is unfolding.

If you would like to learn how to analyse any commodity or stock well, find out where to get the knowledge.

Email if you would like to receive an article about one trader’s journey having traded many different markets.