Overreactions and Oil (USO) Prices

Does it look like war?

Sure smells like it.

We’ll see how things shape up in the days and weeks ahead, but we have to warn readers that any kind of unexpected conflagration or a raising of the stakes in the Middle East or Ukraine could send an unwanted spook through the financial system. There’s an anxiousness in the air on Wall Street today that makes the market ripe for an overreaction.

Stay tuned.

In the meantime – until we see the whites of their eyes – we’re sticking with our story –

  1. This market is a bull market.

  2. It’s a liquidity driven market.

  3. It cares increasingly little for economics or corporate earnings, and

  4. As time wears on, we expect to see a winnowing in the number of issues that benefit from the growing inflow into equities.

Now let’s look at some specifics.

We’ve commented over the last few weeks on how dearly the market wants to see oil price stability before it begins to trek higher again. We’ve also stated that we believe that longed-for stability is at hand.

Indeed, a look at the chart of the United States Oil Fund ETF (NYSE:USO) shows that we are in the midst of a bottoming process that has likely already seen its lows.

Look here –

NYSE-USO-VOLUME

This is the daily chart for USO and it reveals a number of constructive elements.

  • First, RSI and MACD indicators have diverged strongly against price (red lines) and

  • Are about to surface above their waterlines (black circles). RSI could accomplish that today. MACD might require until Monday to confirm. At that point, we expect a wave of technical buying to ensue.

  • More importantly, though, all this occurred against the backdrop of a massive turnover in shares (in blue) – from an average daily trade of less than 10 million shares to in excess of 30 million – a development that also speaks to the likelihood of a bottom in the works.

The weekly chart for USO also shows divergence, and illustrates in full technicolor just how much volume has surged over just the last two months while the selling slowed.

Have a look here –

NYSE-USO-PRICE

Our own opinion is that 1) the $15.61 low of mid-March was the bottom for the move, 2) oil is now stabilizing and 3) that will soon translate into additional investor confidence.

We should add that if the current war between Saudi Arabia and the Houthi Iranian proxy in Yemen gets hotter, we should expect production and distribution disruptions in the Middle East that lead to further rises in the price of oil.

Transporting the Bull Higher

While nothing’s yet proven, we also like what we see from the Dow Transports (DJTA), a group that has struggled for the last four months after a wild 90% gain in the two years that preceded the pause (not seen on chart).

Here’s the daily movement for the last six months –

DJIA-CONSOLIDATION-INDICATORS

While neither RSI nor MACD indicators offer us anything conclusive for the sector, we see that we’re at the low end of a pennant formation (in red) that has been gently narrowing for more than a quarter, and that we believe will shortly be resolved on the upside. Pennant patterns are ‘continuation formations’, and the consolidation comes as a much needed respite following the above mentioned dizzying rise.

More to the point, however, the transports’ pop above her last high at 9310 would signal a belated Dow Theory BUY signal, confirming the Industrials last high, set just a few weeks back, and, again bringing Dow Theory enthusiasts and chartists into the market in force.

That level, 9310, is a mere 7% above yesterday’s close. That’s not a great distance. And 9170, the top of the pennant, is just a 5.5% dance away.

Current levels mark a solid, speculative entry point for CALL buyers, in our estimation.

High Tech, High Popularity

As per our above comment on a narrowing group of popular issues that will ultimately carry the indexes to their peak, we see it happening already, with companies like Aeropostale, Facebook, Apple, Sturm Ruger and Olin Corp. among the top 100 stocks on the market year to date, and among our favorites going forward.

But don’t count out old-line tech wonder, Intel Corp. (NASDAQ:INTC), whose shares popped higher by as much as 10% last Friday after indications they were on their way to taking over fellow chipmaker, Altera Corp (NASDAQ:ALTR).

INTEL-LEAP-FROG

The semiconductor industry has been slapped by a number of high profile downgrades of late that we believe underrate the industry’s ability to make money.

And that’s good news for Intel. The company has a 3.12% dividend yield and trades with a P/E of just 13.27.

We’ve got faith this baby will leapfrog higher in the second half of the year.

Long range speculative CALLs look interesting.

Many happy returns,

Matt McAbby, Normandy Research

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