Why Oil Is About to Start a Huge, Multi-Month Rally

As often happens after large degree trends reach maturity, the crowd becomes fully associated with the what has happened, and misses the next great opportunity. This exact scenario is not only occurring in crude, again (as it did at the low of one lesser trend degree at the 2009 low, but also happened at the 2008 peak, 2011 peak, 2011 low, and 2013 peak), into the current price and time windows.

The rationale back then was the oil glut paradigm, where the world was drowning in crude. Interestingly, as the monthly bar chart below notates (into the 2008 parabolic price rise), this glut story came to the headlines within only six months of the story that was being attached to the crude price rise from $50 to $137; the peak oil paradigm. This was the premise that every last drop of oil on the planet has been identified, and the moment in time the world would run out of oil could be calculated (given the population growth and usage assumptions, etc.).

Click here to see the below chart in a new window

Like any pendulum swing from one extreme to the other, wild price movements in the oil market are moving from one (sentiment) extreme to the opposite.

What really caused the run into the 2008 all-time high had nothing to do with counting oil droplets or barrels, nor did any other high or low since OPEC lost control of global oil pricing, arguably around the turn of the century. The cause of these moves are liquidity (of cash, not crude), leverage, and sentiment; mostly of hedge funds and professional trading firms that tend to become fully associated with their positions, known in the industry as “talking their book,” at the time when objectivity is needed most.

When viewed from a pattern recognition perspective, which is one of the algorithms that our objective decision support engine (DSE) uses to identify high probability trend inflections and forecasts, the news noise quiets, and the picture becomes clear and usable. For example, if you use our super simple six-foot analysis technique, employed by moving your eyeballs six feet back from your screen, one notices that the 2008 peak can be labeled as wave 1-circled, representing the highest high in history. This is also when the crowd developed the most bullish sentiment extreme ever recorded, and created the most bullish story one could hope to apply to a commodity; crude supplies are now provable to be finite, and demand infinite! As typically happens at this pole in the pendulum’s swing (the moment in time when the direction is about to change, and the pendulum freezes in space), prices hit the upper 3 standard deviation band (containing 99.7% of normality), and have no where to go but down. Ralph Elliott proposed that parabolic rises always end in crashes return to, or below, the origin of the parabola’s beginning.  As the chart shows, it took less than four months from the peak for the price to reach the $50 origin, then two more months for the ultimate low to be put in. That is labeled as wave (A) of wave 2-circled; the first corrective wave of a three wave correction, to be eventually labeled as (A) down, (B) up, and (C) down, concluding the entire corrective wave 2-circled, ending the crude market’s reset of the bullish extremes that manifested the $137 peak.

The 2013 peak, also using the six-foot technique, is labeled as wave (B), the intervening up portion of the down/up/down corrective pattern. From that peak, there is now a textbook five wave impulsive decline, which is expected for wave (C). Within wave purple 5, the decline from the May peak this year, there are now five smaller waves that can be counted as complete, or nearly so, which is also expected, textbook behavior. In doing so, the crowd has now manifested itself into a sentiment extreme of certainty about the future price of oil that leaves no room for human failure,an attribute of human nature that is impossible to eliminate. Therefore, devastating surprise is about to be brought to the crowd’s certainty, and the next great bear trap, like that of early 2009, is about to slam shut on greedy shorts that refuse to use protective buy stop orders to lock in their amazing profits, and late-joining shorts that missed most of the decline from at least the May peak, near $62, if not the 2013 peak, near $112!

Notice the subtlety of the slightly higher stochastics low occurring now vs. the lower low at the March low, compared to the lower low in prices now vs. then (bold green lines at the bottoms of both panes). This is called a bullish divergence buy signal, and is another condition that our DSE’s hunter/seeker algorithms scan for, and alert when they appear. Viola! If you zoom in, using the link above the chart, you can see that price is now testing the lower 2 standard deviation band, which contains 95% of normality. On daily bar charts (not shown here), this morning’s low tested it perfectly, at $36.45, and reversed. Also on daily bar charts, price is below the lower Bollinger Band, a shorter term measure of extremes of price departure from the zone of typical price action.

As this picture, and the technicals, shows, and the DSE question “if I had no money in the oil market, would buying or selling actions be objectively indicated?” answers, selling actions are NOT indicated below $40. In fact, buying actions ARE indicated, as the blue and red arrows, from our green oval, both point toward a multi month rise into the red box. That zone is 77 +/- 10. This is the forecast of objectivity vs. the forecast of subjectivity (benefiting one’s aging short exposure) of $30, or even those who propose $20.

DSE strongly suggests using $40-$43 as your buy stops on short crude exposure, and considering beginning to establish long crude exposure anywhere in the $30’s, then adding upon a close above $44, to benefit from the next 12-to-18 months of crude rise into the target zone in the pink box.

Don’t let the bear trap get a hold of you. If you want to get a feeling for what that might feel like, imagine shorting crude at $37 in early 2009, thinking you were on the right side of the trade, as price fell to the low of $33, not exiting to take your $4 profit, then dealing with your subjective rationale as price exploded from $33 to the first big reversal point at the 2010 high near $87. Yes, those that were trapped recall it well.

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