WTI Crude – Risk of Pullback High As Fundamental Reason For Gains Weak

Crude Oil recorded a 5th consecutive gain last Friday, climbing from a day low of 97.31 to a high of 100.26 just before market closed – the largest one day gain since 3rd Dec 2013. The important question now is whether prices rallied in spite of a weak Non-Farm Payroll print or because of it, as this will impact the feasibility of a longer-term bullish follow-through as prices stay above the century mark.

A weaker NFP print puts dents on the US recovery narrative, and there is a risk that market may have been over optimistic about the prospect of growth in 2014, and that should be “risk negative”, and hence we should see stock prices and risk correlated assets such as WTI heading lower. This behaviour was predictably seen when initial post NFP reaction was a bearish push towards 97.31. However, it should be noted that in the past (especially prevalent during early 2012), a weaker NFP number actually pushed risk trends higher as market interpreted this as a higher likelihood of Fed intervening – which resulted in the announcement of QE 3 in 2012 September. Similar behaviours were observed in 2013 after the Fed hinted at the possibility of tapering QE purchases as market interpreted weaker than expected economic numbers as a likelihood for Fed to keep stimulus as it is.

Hourly Chart

As such, the weaker than expected NFP print this time round may have been interpreted as a bullish event especially since the new Fed Chairman Yellen has just taken over and will be making her maiden policy speech to the House on Tuesday. Market could be expecting Yellen to stop current pace of QE tapering given the weak growth prospect, resulting in strong revival in bullish risk sentiment. Hence, WTI actually moved higher because of the weak NFP and we could see prices having the ability to move up higher if Yellen indeed turned out to be dovish.

This argument seems logical and there appear to be evidence as well – US stocks gained strongly; S&P 500 clocking in 1.33% higher, Dow Jones Industrial Average +1.06% and the risk sensitive Nasdaq 100 gained the most 1.84%. On the other hand, fear index VIX fell 11.26%, showing that risk appetite is alive and well and not just limited to WTI Crude.

However, other assets do not really agree – 10Y Treasury yields traded 1% lower but was mostly flat during the day following the opening gap. USD was weaker ( Dollar Index Spot DXY lower by 0.266%) but nowhere close to the magnitude seen in Stocks and WTI. Similarly, Gold which was expected to climb higher should there be stimulus speculation did moved up but the gains are definitely paltry compared to the ones seen by WTI.

Hence, the assertion that QE speculation is back do hold some water, but we’re still far away from a full confirmation. As such, there is some degree of doubt whether there is actually overreaction on WTI, and the likelihood of bearish pullback increases as the fundamental reasons for WTI to be so high is still in doubt.

From a technical perspective, it is clear that bullish momentum is overbought, and prices appears to be pulling lower already even before the swing high of 27th Dec has been tested (see Daily Chart below). Should 100.0 round figure fail to hold, we could see significant pullback towards 98.5. However, if prices manage to hold above 98.5, the likelihood of a quick return to 100.0 and potentially higher becomes higher as this will be strong testament to WTI’s Crude inherent bullish strength.

Daily Chart

The bullish momentum from Mid Jan continues, but prices will need to break 100.57 and preferably above 101.5 in order to affirm strong long-term bullish conviction. Failure to do so would mean that the decline from August 2013 remains in play and the risk of a return of bearish momentum towards 91.22 swing lows becomes higher. Nonetheless, it should be noted that we have just averted a Stochastic bearish cycle signal with Friday’s push, and that would alleviate short-term bearish pressure.

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