Oil and Gas Equities Outlook for Monday, January 29, 2018
Jan 28, 2018 Trading Blog
It was a frustrating trading week as the XOP opened on Monday at 38.73 and finished the week barely higher at 39.06. All week I fought with this issue: Is the sector just consolidating here getting ready for a big leg up OR is the sector flat and being propped up by the SPY, Oil and EURO only to fall quickly when those three turn south?
Probably the most fascinating thing to me right now are all the people making a huge deal of the market having a 5% pullback like it would be an absolute market disaster. Really? 5% of the SPY is about 14 points. If the market pulls back 14 points, that is back to 272, or roughly where we were January 8. Today is January 29. Think about that. The horrible event most people anticipate would take us back to where we were THREE WEEKS ago. That means NOTHING. It’s a blip. Even a 10% pullback (which most people would consider a catastrophic event these days) would take us down 28 points, or to about SPY 258, or where we were November 17, about TWO MONTHS ago. Even a full on 20% bear market only takes us back to 230, or where we were around May of last year. I get the feeling that extreme complacency has set in. A full on bear market reverses about 6 months of gains? Insanity. Yes, that is how parabolic this market is right now, and all this on a disappointing 2.6% GDP print. Honestly, the whole thing makes me not want to put a nickel into this market.
The XOP/SPY relative strength issue was very clear on Friday when the SPY was up $3.28 to new all time highs, yet the XOP went nowhere, basically sitting near the lows of the week. (The fact that the SPY went to new highs on a terrible GDP miss of 2.6% is a completely different worrisome beast.) At the same time, WTI was back above $66 and very near the highs with CFTC numbers that are still 12:1 in favor of longs, while the EURO was green and still around the 1.2450 mark. The combination of those three things should have had the XOP flying to new highs, yet we got nothing. The relative weakness just screams short this thing, but do we really want to fight the SPY, WTI and the EURO? And if these three markets ripping to new highs can’t push the XOP to new highs, then what can? Given these external factors, I feel like the XOP should easily be in the 42-45 range, but it can’t even break 40. It is a very tough spot to be in for a shorter term trader.
I don’t normally trade the XLE, but sometimes it is interesting to break that index apart to figure out where the strength and weakness is within the entire oil sector. After spending about an hour doing that, I still have nothing. The only sub-sectors which showed consistent weakness were the pipelines and the refiners (which may explain some of the lag in XOP with its 12% refiner weighting). In each sub-sector there are strong and weak stocks and no real pattern. For natural gas, you have strong EQT and COG, while RRC and SWN get crushed. In services, SLB and HAL being bought, while BAS, CJ, RES, SLCA, FRAC, PUMP get sold off. Land drillers HP, PTEN and NBR are up, while offshore drillers RIG, DO and ESV were down.
It is the same story with the E&P group, but the one distinction I could find there (and also somewhat in services sub-sector) was that the larger caps are greatly outperforming the smaller caps. APC, COP, CLR, EOG, PXD sized were all strong, while the weakness showed up in smaller names like LPI, CRZO, ESTE, JAG, QEP and REN. This also showed in services with HAL and SLB strong, but FRAC, PUMP, BAS, CJ, RES sized stocks getting sold off hard. The XOP is a fairly equal weighted portfolio with the biggest holding in the index, Anadarko, only being 2.2%. The macro story can really get skewed when something like a 700 million REN can offset a 34 BILLION APC in the index. APC is about 50 times the size of REN, but both count nearly same (2.2% vs 1.0%) in the XOP index.
The hidden story may be the battle between the short term speculative money targeting the small caps versus the larger, longer term smarter money targeting the large caps. To help evaluate this, it is a good idea to keep an eye on both the XOP and the XLE. The XLE is more representative of the larger, longer term money in energy since it is weighted heavily in large caps, while the equal weighted approach of the XOP lends itself to being more representative of the shorter term speculators. It is very much the reason that I, being a short term trader, prefer the volatility of the XOP over the XLE for trading. Many times the smaller caps will lead the market, as they are the faster money, so the fact that small caps are under performing in energy may be a sign of near term weakness and that a pullback is coming. It isn’t definitely a signal that the run is over, but rather a signal that the shorter term money saw this as a level where they preferred to take some profits in these smaller names after some great runs. It doesn’t always happen this way, but it is a useful clue.
Outlook for Monday: My outlook is neutral for Monday and will probably develop as the day progresses. I will be sitting on the sideline watching the SPY, EURO and Oil to see if they continue their run. If they do and the XOP continues to lag, then I will start looking for a place to get short safely with a very defined stop. The danger in shorting when all these other things are against you is that if the slack in the XOP rope does disappear, it will be so fast that it can crush you if you are short. Once the imbalance appears, everyone will see it and the buyers will pounce.
On the long side, I’ll be watching the 38.70 low from last week. We tested that level on Thursday (38.76) and Friday (38.78), so I would think that we would test that early this week to see if we accept or reject last week’s fair value range. If 38.70 can hold for a few tests and establish us within last week’s range, then we could easily make a run at the top of that range back to 40, and from there who knows what could happen. If we break down below 38.70 and fail a few times to get back above that level, then that could be a clear rejection of last week’s fair value range and we could seek to establish value a some lower price, probably around 37.