February Crude Oil closed higher last week despite the stronger U.S. Dollar and a general aversion to risky assets. This only proves what traders have known for weeks that crude oil has decoupled from the rest of the market.
Technically, weekly crude oil is in an uptrend. As long as the newly formed main bottom at $92.70 remains intact, the trend will remain up. Last week the market poked through the previous main top at $103.28 without much fanfare. The lack of volatility came as a surprise; however, this may have been caused by the stronger Dollar and weaker Euro.
If strength can be restored then look for the market to have a go at the downtrending Gann angle from the $114.57 top at $105.57 this week. On the support side, the market is trading inside of a Channel Up chart pattern formed by a pair of uptrending Gann angles at $103.73 and $100.70.
Based on the current chart formation, there is nothing to suspect that a change in trend is imminent. Therefore traders should continue to explore the long side of the market although it seems a little pricey at current levels. The first sign of weakness will be a break under $99.73. From a chart pattern perspective, a closing price reversal will be the strongest sign that a top has been formed.
Fundamentally, this week’s Energy Department crude oil report signaled weak U.S. demand for crude oil. This took the wind out of the market as it surged earlier in the week toward $104.00. News that stockpiles of oil and fuel rose in the week ended December 30, while demand fell to a 14-year low during the same time period, stopped the rally and encouraged long traders to pare their positions.
Helping crude oil hold above the psychological $100 level is the potential for upheaval in the Persian Gulf. Iran drove up tensions last week by threatening to close the Strait of Hormuz. If this occurs then the world’s most important oil transport waterway will be choked off, preventing the delivery of almost a third of the world’s oil supply. The U.S. has responded so far with talk that it doesn’t plan to allow Iran to close the Strait.
This potential event is enough to provide support for the market at this time, but not enough to trigger a surge to the upside. The key to how high crude oil can rise should war-like events take place is in the hands of speculators. No one is certain at this time of the potential length of a naval battle. A short skirmish may already be factored into the market, but a long stand-off could drive prices sharply higher.
J.P. Morgan oil analysts said in a research report released on Friday that other Middle East exporters have enough spare oil-production capacity to replace Iran’s exports should a European Union embargo on Iranian oil move forward. It is because of this slack in the supply/demand situation that oil prices haven’t soared.
Friday’s U.S. Non-Farm Payrolls report showed an increase in jobs but it didn’t have a strong effect on the equity markets or crude oil. Although the U.S. economy appears to be holding steady, the market doesn’t seem to be pricing in any excessive near-term demand. The longer the financial turmoil remains in Europe, the closer the global economy comes to a recession. It looks as if this is more on the minds of traders rather than the potential crisis in the Middle East.
Furthermore, the stronger the U.S. Dollar gets the more crude oil traders are going to have to pay attention to the price of the product. Since crude oil is priced in dollars, a continuing rise in the Dollar is likely to soon take its toll on U.S. exports. This would have a bearish influence on prices.
Traders could be facing a rangebound market this week between $100 and $104 per barrel if the Iranian situation is unchanged and the Dollar remains strong.
Factors Affecting Crude Oil This Week:
Supply and Demand: Supply appears to be building and demand is falling. If this trend continues then there may be downside pressure building. This could trigger a sell-off if the selling pressure can outweigh the speculative buying power.
European Sovereign Debt Crisis: The weaker Euro is driving the Dollar higher and hence, making crude oil more expensive. This could lead to weaker demand for crude oil. The big story, however, remains the possibility of a recession in Europe and the triggering of a global recession. With European governments on notice to curtail spending, GDP may fall, causing a recession. This could spread throughout the world. A global recession will mean less demand for energy.
U.S. Economy: The U.S. economy is holding steady but if the situation worsens in Europe then there isn’t much the Fed can do to prevent an economic slowdown. The drop in crude oil demand last week may be a sign that users are preparing for a slowdown.
Middle East Conflict: Iran can take action to shut down the Strait of Hormuz at any time and the U.S. stands ready to take action. If a military skirmish occurs then the initial move in crude oil should be to the upside. Prices will rise and fall demanding on how long it takes to defuse the situation.
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