With oil up roughly 24% off last Thursday’s intra-day low, many are wondering if oil has bottomed for good. Although I think that the action in crude has been constructive over the past few weeks, it’s important to put things into context and realize that a 24% move from intraday low to high, in four days, is clearly not sustainable. I’m going to use this post to look at what the factors I look at are saying about oil and explain what I think bulls need to see for this to really be the bottom.

First off, I’d like to provide some context to the underlying price action by looking at measures of sentiment and seasonality.

1. Crude is entering the best 8 month period of the year, with average returns over the past 30 years being positive in each of these months. 

2. Sentiment, according to sentimentrader data, suggests that pessimism in oil is at levels not seen since early 2002.

3. Commercial hedger positioning, though still net short 300k contracts, is off the extreme level of short 500k contracts that we saw in July of ’14.

Now that we know sentiment and seasonality are providing strong tailwinds for price, lets take a look at the weekly chart.

CL Weekly

1. Prices have found support at a trendline drawn from the ’03 and ’09 lows. 

2. Prices are 80% below a downward sloping 200 week simple moving average.

3. Momentum is the most oversold since ’09, though no divergence is present.

4. The first area of resistance, represented by the gray bar, is up near 56-57.

There is certainly the possibility of mean reversion here in the intermediate term, but as you can see by the price action in ’08-’09, the long term bottom in oil took multiple months of increased intra-week volatility to put in a sustainable base to move out of. We’ve finally got some follow through after last week’s bullish candle, which is a nice change of pace, but I’d say we’re due for more volatility over the short term.

Let’s see what information we can gather from the daily chart.

CL Daily

1. False breakdown below January 13th lows triggered a short squeeze.

2. Positive momentum divergence confirmed  and momentum is testing an important resistance level.

3. Prices broke and closed back above the previous pivot high of $49.50, something it hadn’t been able to do in prior rallies.

4. Prices are still 60% below a downward sloping 200 day simple moving average.

As we can see, the action on the daily chart is constructive, but there is still a lot of work to be done before we can call this a long term bottom and not just a short squeeze. As you know, some of the most violent rallies are seen in bear markets and until proven otherwise, oil is still in a long term downtrend.

What I think the bulls need to see in the short term, at a minimum, is price to consolidate between today’s highs near $54.50 and the breakout area of $49.50. I’d prefer to see a tighter bull flag than a 5 point range, but I guess at this point just staying above the previous reaction high is constructive. Rallies this steep are clearly not sustainable within the context of a structural downtrend, so bulls want price to flag here and set up for another trade.

Bottom Line: The strong seasonal backdrop mixed with extreme bearish sentiment can lead to violent counter-trend rallies that can be nice trades for those with short time horizons, but the long term trend is still lower.  What I think the bulls need to see in the long term is for price to continue to base with ATR expanding and prices staying above this weekly trendline. I’d like to see this mean reversion as much as the next guy and I think it’s possible, but to suggest this is a long term bottom with the current information we have, I don’t see it. If this is the bottom there will be plenty of time to identify the trend. Remeber, you don’t have to catch the bottom or the top to make money, just participate in the middle.

As always, if you have any questions feel free to reach out and I’ll get back to you as soon as I can.

Oil Update