Now is the time to get long oil. This is a big change for me; I was a huge oil bear during the “peak oil” craze. It seemed clear that the new extraction technology and the ever-changing geopolitical climate would quickly eliminate the fear of oil becoming scarce.
But my investment thesis, to buck oils upward trend, came to fruition faster than I expected.[ad#Google Adsense 336×280-IA]The Light Crude Oil futures contract (WTI Crude) plunged from the $115.00 zone at the start of 2011 to just above $25.00 in the early months of 2016.
The bulk of the dive began in mid-2014, with a precipitous fall to the lows.
Fortunes were made by the oil bears who had the foresight and nerve to short in the face of massive bullish sentiment.
The oil sell-off was the primarily the result of a trifecta of factors.
First, technology led to a flood of product onto the market. New extraction techniques, such as fracking, allowed producers to access untold barrels of black gold never imagined by the oil bulls. The earth went from potentially running out of oil within our lifetime to virtually unlimited supplies.
Second, political events drove prices down. At the start of 2014, rumors began to swirl around the globe that OPEC, which controls over 40% of the oil market, was not going to be able to ratify production cuts that year. During the November meeting this fear became fact, sending prices sharply lower.
Third, slowing economic activity in China and Russia has had bearish effects on price. Supply and demand have a very real power over the commodities price. Nations like Russia are very dependent on high oil prices to finance their heavy social programs. As oil drops, less money is spent by the government, fueling the slowing economy in a never-ending downward cycle.
Then Everything Changed
Just when the oil bulls were about to throw in the towel, the bottom in price was finally hit. In the early part of 2016, oil prices plunged to just above $25.00 per barrel. Starting in February 2016, prices reversed and began to climb higher. Oil hit resistance at $55.00 per barrel, experiencing a more than 100% gain in just 12 months.
And now, despite the recent bout of profit taking, I firmly think that oil will continue to go higher. Here’s why:
Macro Supply And Demand
Supply and demand are what drives all free market prices. While the oil market isn’t exactly free (due to massive government interference), the same economic forces apply but are just under greater control.
In a report dated February 10, 2017, The International Energy Agency advises that OPEC nations are complying with the output agreement to cut production. The agency reported that “Global oil supplies plunged nearly 1.5 mb/d in January, with both OPEC and non-OPEC countries producing less… OPEC crude production fell by 1 mb/d to 32.06 mb/d in January, leading to record initial compliance of 90% with the output agreement.”
Also, OCED total oil supply experienced its largest drop in three years. At the end of December 2016 inventories clocked in at below 3000mb for the first time since 2015. It was also reported that oil stock continued to climb in China, as well as other emerging nations. As to be expected, volumes of oil being transported by ocean-going vessels also ramped higher.
At the same time, demand is increasing in both China and the United States, the world’s two largest economies, as well as in emerging markets. Climbing demand combined with tightening supply will send prices higher.
While supply and demand are the primary forces of price changes, the sentiment of large traders holds influence over price. Oil is a speculative market with traders betting on the future price rather than what is happening now. In other words, the oil market trades on barrels that don’t even exist yet. Sentiment feeds on itself, creating price momentum. Despite the recent price pullback, sentiment remains bullish on oil. I expect the pullback to be used as a buying opportunity very soon.
The Technical Picture
Oil has been on a stable upward trend since January 2016. A unique candlestick called a Doji has been formed by its price movements. Doji’s are one of the more accurate candlestick patterns and signal price indecision or change. Oil price created a perfect Doji in January 2016 when price reversed its slide. Right now, the next long-term technical resistance is at oil’s 200-month moving average, currently posting at $63.92 per barrel.
Risks To Consider: The U.S. oil supply is increasing thanks to fracking and other technological extraction tactics. There is a risk for the bulls that the U.S. supply will offset the global oil supply decline.
Action To Take: Bulls will likely be rewarded for their patience. Wait until the upward trend resumes before getting long. Go long the United States Oil Fund ETF (NYSE: USO) on an upside break of $12.50 per share. I expect to see $25.00 per share, and my initial stop loss is at $9.87 per share.
— David Goodboy
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Source: Street Authority