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Jim Hyerczyk

Jim Hyerczyk

Fundamental and technical analyst with 30 years experience.

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Markets Setting Up For A Major Short Squeeze

 

Last week, crude oil futures bucked the trend and defied the bearish fundamentals to put them in a position to finish higher for the week. The price action was volatile and with a slight upside bias, but the moves seemed to be caused by counter-intuitive trading at times.

The week started with a strong surge by oil as traders reacted to the weaker-than-expected U.S. Non-Farm Payrolls report from April 3. Expectations that the Fed will be slow to raise interest rates drove the U.S. Dollar lower, which helped boost the dollar-denominated futures contract. Also helping prices to rise was the news that Saudi Arabia raised prices for crude shipments to Asia, as demand from refineries improved.

The rally must have caught many short-sellers by surprise since most of the recent reactions to the movement by the U.S. Dollar had been to the downside. Furthermore, traders seemed to ignore the news from April 3 that Iran and six major powers had hammered out a preliminary nuclear deal. When the deal is finalized, Iran may be able to put more oil on the market, adding to the bearish supply scenario.

Trading conditions turned bullish on Tuesday when it was announced that Saudi oil production rose to 10.3 million barrels a day in March. Once again this news appeared to be bearish on paper because it dealt with increased production. Nonetheless, traders saw it as a bullish development.

By mid-week, the trend had turned up on the daily chart, but another surge in U.S. crude stockpiles finally put traders and the fundamentals on the same page. Crude oil weakened on the news that inventories had increased 10.95 million barrels to an all-time high of 482.4 million barrels for the week-ended April 2.

The resilience of the market despite the number of fundamental events may have made short-sellers nervous since, as of Thursday, May Crude Oil futures were set up to close higher for the third consecutive week.

The main trend is still down on the weekly chart but a close over a key 50% level will give the market a slight upside bias while putting it in a position to turn the main trend to up.

The short-term range is $56.08 to $44.03. Its key retracement levels come in at $50.05 and $51.48. A close over $50.05 will put the market on the strong side of the 50% level. A close over the 61.8% level at $51.48 will indicate the buying is getting stronger. The main trend will turn up on the weekly chart when $56.08 is taken out with conviction.

For swing chart traders, a move through $56.08 will set up three potentially bullish scenarios.

The first move from the $45.52 bottom led to a rally to $56.08, or a move of $10.56 in three weeks. This week was the third week up from the $44.03 bottom. The high this week was $54.13, or $10.10 from the bottom. Next week will be the fourth week from the bottom. If the up move continues and the subsequent rally exceeds $54.59 then look for expanded volatility to the upside. In addition, the move may also create enough upside momentum to take out the main top at $56.08, thus, changing the main trend to up on the weekly chart.

Taking out $56.08 will not only turn the main trend to up on the weekly chart, but it will also confirm the double-bottom at $45.52 and $44.03. Adding the first rally of $10.56 to the main top at $56.08 makes $66.64 another potential objective.

Finally, the third scenario deals strictly with the upside momentum created by a sustained rally through $56.08. This occurrence is likely to change the sentiment to up because it will signal to bearish traders that it may be time to regroup and stop fighting the buying forces. It will also signal that despite all of the mounting bearish fundamentals, there may not be enough sellers left to drive the market to new lows.

If this becomes the case then crude oil may retrace back to at least 50% of the $98.87 to $44.03 range. This makes $71.45 a realistic upside target especially if there is a short-squeeze. This typically takes place after a prolonged down move fails to attract enough shorting pressure to drive the market lower despite a boat-load of bearish fundamentals.

In summary, it looks as if traders have absorbed the bearish fundamentals and seem a little reluctant to short at current price levels. This has created almost ideal conditions for a short-squeeze. Watch the price action and order flow as the market nears $56.08. Trader reaction to this price should set the tone for the week.




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