Crude Oil Outlook:
- After a sharp drop over the past two weeks, crude oil prices have returned into their bullish triangle.
- Despite technical erosion, the fundamentals haven’t changed: supply limitations linger despite recession concerns.
- According to the IG Client Sentiment Index, crude oil prices have a bearish bias in the near-term.
Undersupply or Recession?
Between the June Federal Reserve policy meeting on June 15 and last Friday, crude oil prices experienced a rude awakening as recession fears rose amid the acceptance that the only way for central banks to restrain inflationary pressures is through demand destruction. But amid a washout in prices, reality is setting back in: the global economy remains undersupplied on the energy front, and no amount of monetary tightening can fix global supply chains upended by Russia’s invasion of Ukraine or China’s zero-COVID strategy. The fundamentals haven’t changed much at all; but a key technical turnaround is taking place that suggests the recent downturn may be finished.
Oil Volatility, Oil Price Correlation Remains Weak
Crude oil prices have a relationship with volatility like most other asset classes, especially those that have real economic uses – other energy assets, soft and hard metals, for example. Similar to how bonds and stocks don’t like increased volatility – signaling greater uncertainty around cash flows, dividends, coupon payments, etc. – crude oil tends to suffer during periods of higher volatility. Stability in oil volatility amid a washout then rebound in crude oil prices has left correlations mostly unchanged, if not still weak.
OVX (Oil Volatility) Technical Analysis: Daily Price Chart (June 2021 to June 2022) (Chart 1)
Oil volatility (as measured by the Cboe’s gold volatility ETF, OVX, which tracks the 1-month implied volatility of oil as derived from the USO option chain) was trading at 48.95 at the time this report was written, nearly at a fresh monthly closing high. The 5-day correlation between OVX and crude oil prices is -0.45 while the 20-day correlation is -0.62. One week ago, on June 20, the 5-day correlation was -0.65 and the 20-day correlation was -0.66.
Crude Oil Price Technical Analysis: Daily Chart (June 2021 to June 2022) (Chart 2)
Crude oil prices fell below the rising trendline from the December 2021, April 2022, and May 2022 lows for a few days last week, but it appears a failed bearish breakout attempt developed. Now back above said trendline, crude oil prices have returned into the multi-month triangle that’s been developing for almost seven months. In doing so, the bullish symmetrical triangle is back in play, which in context of the preceding move, still calls for fresh cycle highs in crude oil prices by mid-summer. A move to the daily 21-EMA (one-month moving average) is the first target ahead, at 112.10.
Crude Oil Price Technical Analysis: Weekly Chart (March 2008 to June 2022) (Chart 3)
On the weekly timeframe, bullish momentum remains stalled despite the rebound in prices. Crude oil prices are below their weekly 4-EMA, but have moved back above their weekly 8-EMA, and remain above their weekly 13-EMA. The EMA envelope remains in bullish sequential order, nevertheless. Weekly MACD continues to decline while well-above its signal line, and weekly Slow Stochastics are holding around their median line. If a failed bearish breakout did indeed transpire, the weekly timeframe may not reflect such a development; paying attention to 4-hour and daily timeframes is logical.
IG CLIENT SENTIMENT INDEX: CRUDE OIL PRICE FORECAST (June 27, 2022) (CHART 4)
Oil – US Crude: Retail trader data shows 54.35% of traders are net-long with the ratio of traders long to short at 1.19 to 1. The number of traders net-long is 12.16% higher than yesterday and 1.01% higher from last week, while the number of traders net-short is 3.46% higher than yesterday and 10.42% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests Oil – US Crude prices may continue to fall.
Traders are further net-long than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger Oil – US Crude-bearish contrarian trading bias.
— Written by Christopher Vecchio, CFA, Senior Strategist