Option Investor
Commentary

Oil Nears Support while Equities Near Resistance

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After getting a small bounce early in the week, oil dropped to a new low of $46.20 on the June contract. Starting Monday we'll be switching to the July contract. There is a steep down-channel that has contained price action in its decline from the March high. After bouncing off its 200-dma ($47.60) and its long term uptrend line, oil then dropped below this support to end the week below its 200-dma. However if you look at the July contract, its 200-dma and uptrend line sit near $47.00. This contract closed at $48.65 on Friday and therefore has another $1.65 that it can drop before reaching firmer support.

The continued drop in oil has continued to depress the price of the oil stocks as well. The oil index dropped below its 100-dma at 444.73 last week and then bounced back up to it before dropping back down and closing at 440 on Friday. This index looks like it could be headed for its 200-dma support at 417.01 but could find support at its uptrend line from December 2003, currently near 423. A little further drop would coincide with a further drop in the price of oil as noted above. This index looks close to solid support and therefore anywhere in here makes for a good entry level for the oil stocks. I set some exit targets for the insurance puts so that we can use those profits to reduce our costs in the LEAP calls.

These insurance puts continue to protect us to the downside but we could be close to support and will watch carefully for where we'll want to take profits on the puts so as to decrease our cost in the LEAPs. The US dollar continued its rally this week and that has depressed the prices of most commodities. The dollar looks like it has at least a little more rally left to it which again fits the picture that we could see a little further dip in the price of oil.

The broader equity market enjoyed a very nice rally off the May 13th low. The rally is looking tired now and I would expect to see a pullback early in the week. The DOW and S&P had dropped below their long term uptrend lines (from March 2003) in April and are now coming back up for a test of that trend line. We'll watch this carefully to see if it will just consolidate below it and rally above or instead starts to pull back more aggressively. If we start to drop back down quickly, we could see a test of DOW 9800 sooner rather than later.

The only change to our portfolio this week was the drop of OSTK since it rallied up and hit our stop. I still view this stock bearishly but I didn't want to see a profit turn into a loss on this one. As always, price rules, not my opinion.

I updated several cautionary exits on the insurance puts on oil. If we do get a continued drop I want to take profits on the puts and reduce our costs in the leaps.
 

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