Tuesday, August 21, 2007
Gas prices in Northern California dropped below $3 per gallon this past weekend. That's down from a summer high of about $3.90.
So as I stood there at the pump, filling up my wife's SUV and wondering what I would do with the spare $23, one thought crossed my mind...
"It's just about time to buy oil stocks."
I know it seems counterintuitive to buy oil stocks when the price of oil is falling. But that's exactly when you want to jump on board. You see, oil stocks are leading indicators of the price of crude. The stocks rally before the price of oil goes up. And the stocks fall just ahead of a drop in the price of crude.
There are two times each year when the market expects oil prices to rise. So, there are two times each year when it pays very well to trade the oil sector.
The first paycheck arrives sometime during the first quarter as oil stocks start to rally in anticipation of the summer driving season. I wrote about this back on March 22, and if you got into that trade, then you profited quite well.
The second major oil-stock rally usually gets started early in the fourth quarter just ahead of the arrival of Old Man Winter. I wrote about this last year as well, on September 28.
Timing the trades can be a bit tricky. You can't just look at the calendar and decide that it's time to fill up on the stocks. Sometimes the winter rally starts in October. Sometimes it happens in November. Last year, it was in late September.
The following chart is one of the best tools to time oil stocks...
This is the S&P Energy Sector Bullish Percent Index (BPENER). It's a momentum indicator that measures levels of overbought and oversold conditions.
When the indicator rallies above 80, it's overbought. A downturn from that level is the first warning sign of an impending decline in the oil-stock sector. It was this action that convinced me to exit the oil patch back on May 24.
I exited the trades a bit early. But, given the action of the past few weeks... well, better early than late.
Now, however, we're looking at the opposite condition. The oil sector is dramatically oversold. The BPENER is below 30. And, as you can from the chart, that's the level at which many oil-stock rallies get started.
But before jumping back in, there is one more indicator that I'm waiting to see fall into place. I'll let you know when that happens, and I'll be recommending several trades for S&A Short Report subscribers.
We made a lot of money trading the last few rallies in the oil sector. We should do pretty well this time also.
Best regards and good trading,
Natural gas prices plunge… biggest one-day drop in four years. September contract closes around $6.
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