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Back where we started

Fundamentals

Neither bulls nor bears seems to want to take control of the crude oil futures market as prices have once again returned to the middle of the 70 to 80 dollar trading range the market has been stuck in since May. The recent rally attempt has failed once again to take hold as trader fear a slowdown in the economic recovery. The US, Japan, and even China has seen weaker than expected economic data released recently, which has provided fuel for thought that energy demand will falter given slower growth forecasts. In addition, the recovery in the U.S. Dollar especially vs. the Euro is also weighing on crude prices as a stronger dollar makes crude prices less attractive non U.S buyers. Large speculative accounts have been caught on the wrong side of the recent sell-off, with the most recent Commitment of Traders report showing non-commercial traders, holding a net-long position of 153,696 contracts as of August 10th. This position was before the steep sell-off that saw September oil fall by over $6 per barrel in 1-weeks time, which appears to have been aided by long liquidation selling by commodity funds. With oil supplies currently ample and the end of the peak summer driving season only a few weeks away, it would seem that oil prices could continue to slide. However, past attempts to move prices below $70 have failed previously and unless we start to see a major contraction in the world economy, oil prices may continue to trade in a range bound fashion till the end of the year.

Trading Ideas

With no clear sign that the crude oil market is ready to breakout of is recent trading range, Traders may wish to explore trading strategies that should benefit from a range bound market. Once such strategy is selling strangles in crude oil options using strike prices outside the recent price range. For example a trader could sell the October oil 85 calls as well as the October oil 70 puts. With October crude trading at 75.90 as of this writing, this strange could be sold for about 1.65 point or $1650 per spread not including commissions. The premium received is the maximum potential gain on this trade as would be realized if October crude is trading below 85.00 and above 70.00 at option expiration in September. Given the risks involved in selling naked options, traders should have a exit strategy in place should the trade move against them. For example a trader may wish to close out the trade before expiration should October oil close above 85.00 or below 70.00.

Technicals

Looking at the daily chart for October oil, we notice that since the recent highs were made on August 4th, the market has made a perfect 61.2% Fibonacci retracement. Oil bulls would need to see the recent lows hold in order to remain somewhat positive that the recent selloff was nothing more than a long liquidation correction. However oil bears will note that prices are now below both the 20 and 200-day moving averages which sends a bearish signal to trend following systems. The 14-day RSI has also turned weak with a current reading of 39.66. 72.15 is seen as the next major support area for October crude, with resistance found at the 20-day moving average near the 79.30 area.

Mike Zarembski, Senior Commodity Analyst