Oil prices set for a breakout, but which way will they go?
Oil reached a high of $US140 a barrel in June 2008, just before the global financial crisis really hit home with the collapse of Lehman Brothers. Then it fell for seven straight months to reach lows close to $US40 a barrel, under the influence of the intensifying recession and fears that China's economy might collapse.
But the situation turned around strongly, with professional traders pushing the price back up to resistance levels of about $US114 a barrel in April 2011. Since then, the price has been oscillating between narrowing trend lines, indicating that oil is set for a breakout.
Looking to find which direction, investors could use several charting tools that measure momentum and are widely available, such as the stochastic oscillator.
While such tools can be useful, Umansky warns they should be used with great caution as they measure only past performance.
The tightening of the price oscillation indicates that any breakout is likely to be strong and the chart could be described as being in a very long-term congestion pattern. Indeed, the price following the breakout could test either its highs or lows on the chart, he says.
With that in mind, he says, wise traders will be looking for a breakout in either direction while protecting their position with stop losses just below the trend line on the opposing side of the breakout. However, in such situations it pays to be nimble and investors need to keep their eyes out for false breakouts that could be quickly reversed.
Where a position is taken in what turns out to be a false breakout, then the position should be reversed if the oil price re-enters the confines of the trend lines.
This column is not investment advice. rodmyr@gmail.com
Frequently Asked Questions about this Article…
A narrowing band means oil has been oscillating between tightening trend lines (a long-term congestion pattern). The squeeze builds pressure, so technical analyst Mark Umansky says any breakout from that band is likely to be strong and could send prices testing the chart’s previous highs or lows.
Oil hit about US$140 a barrel in June 2008, then fell for seven months to lows near US$40 after the financial crisis. Professional traders later pushed the price back up to resistance around US$114 a barrel by April 2011, and since then prices have been oscillating between narrowing trend lines.
Investors can use widely available momentum tools such as the stochastic oscillator to help spot potential breakouts. The article notes these indicators measure past performance and should be used with care alongside other analysis.
Technical indicators can be useful for gauging momentum, but Umansky warns they only measure past price action and are not guarantees. They should be used cautiously and as part of a broader approach rather than relied on alone.
The article recommends watching for a breakout in either direction, protecting positions with stop losses (for example just below the trend line on the opposite side of the breakout), staying nimble, and being ready to reverse a position if the price re-enters the trend lines.
False breakouts can reverse quickly. The article advises protecting positions with stop losses and, if a trade turns out to be a false breakout and oil re-enters the trend lines, reversing the position to limit losses.
The analysis and chart commentary came from Mark Umansky, a certified financial technician and councillor with the Australian Technical Analysts Association. The column also includes a note that it is not investment advice.
The article observes that oil prices remained relatively strong even with economic weakness in Europe and North America, pointing out that professional traders have helped push prices back to resistance levels. It does not provide a detailed economic explanation beyond that observation.
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