Overbought conditions continued to pressure September crude oil futures last week. Prices seemed poised to finish the week sharply lower as speculators pared positions while booking profits after a spectacular rally. The current developing move is expected to be corrective in nature which will allow the market to reach more favorable price levels for speculators. This may lead to a new higher bottom and another attempted breakout to the upside.
After a steep stockpile draw down, political unrest in Egypt and a strengthening economy drove prices up more than 9% in July, traders are taking a little breather as speculators are beginning to inject value into the equation. The almost perfect storm of fundamental indictors is also beginning to erode as conditions in Egypt have improved enough to lessen the chance of an impact on supply. In the meantime, traders are also beginning to realize that U.S. supply issues are likely to improve.
At issue is the weakening economy in China and the Fed’s decision to implement the tapering of its monetary stimulus program. With China continuing to show signs of weaker growth, analysts are adjusting their estimates for a possible drop in demand. Improvements in the U.K. and Euro Zone economies are also being factored in however.
The biggest issue facing traders over the near-term is whether the U.S. economy will improve enough to warrant a change in Fed policy sooner-than-expected. Initially, investors believed the Fed would begin unwinding its aggressive $85 billion per month stimulus program as early as September. This story helped drive up interest rates, creating greater demand for the U.S. Dollar. Since crude oil is a dollar-denominated commodity, prices fell as it became more expensive to foreign traders.
Since the initial introduction to tapering on June 19, however, the Fed has changed its tune several times, offering a more accommodative tone. This meant it would not make any changes to its monetary stimulus program until an improvement in the economy warranted such a move. This talk from Fed members and Chairman Ben Bernanke helped drive down the dollar, giving crude oil a boost to go along with the developing problems in Egypt.
This week’s topping action in crude oil reflects the possibility that the Fed will once again act to reduce its stimulus program as early as September. The recent choppy action in the market is a sign that traders are evenly decided about whether the central bank will act as early as September or wait until later in the year. Because of this uncertainty, prices are likely to trade range bound until prices reach a balance point.
Technically, the main trend is up on the weekly chart. The new main range is $92.60 to $108.93. This makes the retracement zone at $100.77 to $98.84 the next downside target. An uptrending Gann angle at $102.60 is also a potential downside target next week.
At this time, it doesn’t look like the selling pressure will be strong enough to change the trend to down. The big question remains U.S. economic growth and supply/demand. A strengthening economy will likely mean the Fed will act sooner rather than later about reducing its stimulus, however, the next major report is the jobs data on August 7. This gives traders plenty of time to trade in both directions. Ultimately, the best value will come when the market tests the value zone at $92.60 to $108.93. If supply doesn’t increase however, the market may never get to the zone.