Breakout or Breakdown?
Fundamentals
Crude Oil futures continue to trade between the $80 and $83 levels, seemingly unable to find a direction. The weakness in the US Dollar has supported Oil and other commodities. If you were to compare the Dollar and Oil charts during the month of October, they have an almost perfect inverse relationship. While the greenback's weakness has been supportive for Crude Oil, the failure of the petroleum market to deviate from this relationship indicates that there may be plenty of skepticism regarding whether or not demand will strengthen. At the moment, the US has more than ample supplies of petroleum products heading into what many believe will be a mild winter. In essence, the market is trading almost solely on outside news, rather than supply and demand fundamentals. Like many other markets, including currencies and equities, Crude has been trading sideways lately, as traders wait to digest next week's FOMC announcement. The FOMC is not expected to change rates, but what traders are really looking for is the language in the statement and an indication as to the scale of the Fed's asset buy-back program. Many traders and market observers view the Fed's fixation on deflation as almost disturbing, in that combating deflation now could possibly lead to 70's and early 80's style runaway inflation down the road. These expansionary, deflation-fighting policies may benefit Oil in the long run. If the Fed softens its deflationary rhetoric, it can be seen as negative for Oil and commodities as a whole.
Trading Ideas
The short-term direction of the Oil market is unknown at the moment. Supply and demand fundamentals seem to favor the bear camp, while outside fundamentals (i.e., Dollar movement and commodity market strength) favor the bulls. The chart is also inconclusive. For these reasons, some traders may wish to consider entering into a long strangle – for example, buying the December 83 calls (CLZ083C) and buying the December 80 puts (CLZ080P), for a debit of 3.25, or $3,250. Due to the high cost of the trade, some traders may wish to exit the put on a breakout above 83. Similarly, some traders may wish to close their call on a breakdown below 80.
Technicals
Turning to the chart, we see December Crude Oil continuing to trade in a sideways pattern between the 80 and 83 levels. The fact that prices have not been able to follow-through on closes above the 82.47 level has to be somewhat discouraging for the bull camp. However, prices have also avoided a correction thus far. A breakout above 83.00 or below 80.00 can be seen as significant in the short-term and will likely determine the short to intermediate-term direction of the market.
Rob Kurzatkowski, Senior Commodity Analyst
