Crude Oil Market Analysis (1/9/07 Updated)

Discussion in 'Commodity Futures' started by DrChen, Jan 10, 2007.

  1. DrChen


    Today the market is in a state of confusion, as it struggles to decide whether to bottom out at $55.00 or to break away towards $49.75.

    Today the market finally broke the 2006 low of $54.85 and had a follow-through selling of almost $1.00 to a low of $53.88. This $1.00 follow-through selling shows that the drop to $53.88 was not a normal panic selling triggered by stop-loss orders, but that there were new shorts coming in after the market broke the support. In other words, the market wanted to go lower.

    However, the market could not stay below the 2006 low of $54.85 and retraced back to the previous support above $55.00. Once the market retraced back above the previous support, the shorts who jumped in after the market broke the important $54.85 support ran for cover and pushed the market above the day’s high of $56.15 to a high of $56.20. Once the shorts covered, the market settled back down to $55.63 for a $0.45 loss for the day.

    The market action would have clearly shown that the market had bottomed out at $55.00 if the rally back above $55.00 from $53.88 had been purely technically driven. However, the rally was event-driven, caused by the announcement by a minister of a member country of the OPEC—not even an official OPEC announcement--that OPEC will begin to implement the 500,000 barrels per day cut originally scheduled to start on Feb. 1 immediately. The 10 OPEC countries cut production by approximately 700,000 barrels per day in November 2006 out of the 1.2 million barrels per day they had announced in October. Then in December the 10 OPEC countries maintained the same production level according to the EIA, increased production by 100,000 barrels per day according to Petrologistics, and increased production by 75,000 barrels per day according to the Dow Jones survey. Given OPEC’s compliance record, after the initial knee-jerk reaction the market can hardly reverse its downward trend by OPEC’s unofficial talk.

    Other than OPEC’s unofficial announcement, the other material information coming out today is EIA’s Short Term Energy Outlook. The Crude Oil Market Analysis for Jan. 8 predicted that “the EIA's Short-term Energy Outlook will likely lower its estimate of the 1Q WTI price and of the distillate oil demand due to the record-setting warmth so far this winter.” The EIA lowered its forecast for WTI price in 2007 to $64.42 from December’s forecast of $65.00. The EIA also lowered its forecast for the U.S. demand for crude oil in 1Q and 2007 by the same 0.6%. Due to the miniscule scale of EIA’s downward revision, the EIA’s Short Term Energy Outlook did not have any impact on the market.

    Tomorrow’s DOE report will likely reinforce the market’s trend towards $50.00 primarily because of ample build in gasoline and distillate stocks.

    First of all, refinery utilization rate will likely fall as refineries start maintenance after the New Year in preparation for spring operation. Whether crude stock will increase or decrease depends on the level of import, which is notoriously difficult to predict. The Bloomberg survey’s forecast of a draw of 1.5 million barrels is within the ballpark figure.

    The gasoline import will likely drop from last week’s 1.254 million barrels per day to a more seasonal 1.0 million barrels per day, but such a drop will be matched by a drop in demand to just below 9.1 million barrels per day after the holiday season ends. As a result, the Bloomberg survey’s forecast of a draw of 2.6 million barrels and Reuters survey’s forecast of a draw of 2.3 million barrels are within the ballpark figure.

    The distillate import will likely edge up a little to above 400,000 barrels per day from last week’s 385,000 barrels per day, and the demand will likely fall to just above 4.0 million barrels per day due to the record-setting warmth in the East Coast. As a result, the distillate build will likely be approximately 3.0 million barrels rather than 2.0 million barrels forecast by Bloomberg survey and 2.1 million barrels forecast by Reuters survey.

    Overall in tomorrow’s DOE report, unless the crude import falls to 9.5 million barrels per day or lower, the continued build in gasoline and distillate stocks will more than offset the draw in crude oil stocks and pressure the crude oil market towards $55.00. Once the market breaks $55.00 to touch $54.70, it will be a free fall towards $50.00-$50.40.

    On the up side, the market needs to trade above $56.20 in order to break away from the magnetic force of $55.00 that holds the market towards $55.00.

    Result of previous trade: Long established on Jan. 8 at $55.70 was stopped out today at $54.40 for a $1.30 loss.

    Strategy: Hold short at $54.75 with a stop at $56.35, take profit below $50.50.

    Dr. Chen
  2. artis74


    Your stops are to large in my opinion. The next target is 51.50 and if that is broken it will break 50 by the end of the quarter. That is a looong blog you posted there Dr. C.
  3. A $1.30 cent "stop-loss" is too large on Crude Oil?
    That's less than 3%.
  4. DrChen


    I know no other way of trading than doing what I did.

    I got short at $54.75 when the market rallied from $53.88 after breaking the 2006 low of $54.85 (see Crude Oil Market Analysis (1/9/07)). The old support of $54.85 became a new resistance, so it was reasonable to be short at $54.75.

    At that time on Jan. 9 the day's high was $56.15, and there was no meaningful resistance between $54.85 and $56.15, so I placed a buy stop at $56.25. (I can't buy at or below resistance, and I can only buy after the market breaks resistance.) Later the market rallied on short covering to a high of $56.20 and settled at $55.64.

    In a nutshell, my defense for placing such a large stop is because I have determined that the market has no resistance above $54.85 until $56.15-$56.20, so I have placed a buy stop at $56.35 with the expectation to take profit at $50.40. I am willing to risk $1.60 for a $4.35 profit. In my opinion, this is a good trade.