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Thursday, January 07, 2016 10:16 AM

Is the Oil Bottom In? Reflections on Value, Volume, Other Ideas

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Oil swooned again yesterday, from $35.97 to $34.15. It's down again today.

Were the month to close here (charts below captured yesterday), this would be the lowest monthly close dating all the way back to December 2003.

Crude Monthly Chart

click on any chart for sharper image

Crude Daily Chart

Volume of contracts traded is displayed at the bottom of the chart.

One Hell of a Collapse

That's one hell of an impressive collapse from a daily, weekly, or monthly chart perspective. But is the bottom in? Some think it is.

For example, EconMatters writes That's the Bottom in the Oil Market.

EconMatters concludes his article, posted yesterday, with "You may now go long the oil market in your preferred instrument. Just stay away from companies that are going to go bankrupt, but in buying something like the USO oil futures ETF, you will definitely have a positive expected return over the next six months to a year going forward."

I sympathize with that conclusion, but would not use the word "definitely". I am not even positive about saying "likely".

One thing I can guarantee is that oil is far closer to the bottom than the top. My statement is simply a mathematical truism.

The top was $147 in June of 2008. The bottom is zero, and that bottom would assume free energy is coming.

Realistically, the bottom has to be above zero.

Disturbing Analysis

In between his opening statement and his conclusion, EconMatters makes a couple of claims that are worthy of comment.

"It took over 500k in futures contracts just to push oil futures below $34 a barrel on Wednesday, and trust me it wasn't an easy task for those involved in the pushdown. They now are stuck with being far too short the market at a level they don`t even like being stuck short."

"This entire move in equities and oil was already preplanned at the beginning of the year."

Conspiracy Nonsense

The idea that there is some "preplanned" force attempting to suppress the price of oil is patently absurd. It's equally nonsensical "this entire move in equities" was preplanned.

Commitment of Traders (COT) data is notably lagging so I don't know who is long or short or why. It's possible a squeeze is coming due to a supply disruption, a pickup in demand from China or elsewhere, or a war between Iran and Iraq breaks out.

I would not be short here, but the notion someone is stuck at a "level they don`t even like being stuck short at" is also ridiculous.

No combined force has preplanned where oil will go. And even if they did, EconMatters would be the last (besides me) to know.

Oil is trading lower, not because of any conspiracy, but because supply has increased in the face of a slowing global economy. 

Volume Nonsense

Let's now investigate EconMatter's claim regarding volume.

The second chart from the top shows a volume, not of 500,000 contracts but rather 690,700. On that chart, volume certainly looks impressive.

It's not impressive by a long shot as the following chart shows.

Crude Daily - Nearest Contract

Volume is on the left, open interest on the right.

This is essentially the same chart as one second from the top.

What's the difference? The first daily chart shows volume specifically for the February 2016 contract. The Daily Nearest chart shows volume for the nearest unexpired contract.

In August of 2015, there were not many people trading the February 2016 contract, but they were trading the then front-month contract.

The Daily Nearest chart shows 500,000 oil contracts is relatively low amount of trading. Yesterday's volume of 690,700 contracts is just about average. Let's doublecheck for an entire year.

Spotlight on Oil Trading Volume for One Year

Using 700,000 contracts (not 500,000) as volume capitulation, one might have declared a bottom at $49 in January of 2015, at $60 in June of 2015, at $54 in July of 2015, at $42 in December of 2015, at countless points in between, and of course now at $34 on mere average volume.

Reflections on Value

My point here is not to pan the idea of buying energy.

Rather, my point is to call into question nonsensical conspiracy ideas and other rationale that people use to justify their position.

The lower the price goes, the more I like the sector. And I do find energy increasingly attractive from a value standpoint.

Mike "Mish" Shedlock

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