Crude Oil Price Forecast: Fresh Highs Suggest Buying Dips

CRUDE OIL OUTLOOK:

• Crude oil prices set a fresh 2022 high today, keeping intact the bullish technical argument.
• There still hasn’t been a close below the daily 13-EMA since December 20, 2021.
• According to the IG Client Sentiment Index, crude oil prices have a mixed bias.

FED, OMICRON, AND UKRAINE - STILL

For better or for worse, the key drivers behind the recent surge in crude oil prices remain in place. The Federal Reserve’s signaling that it will raise interest rates quickly this year are undergirded by the fact that the US economy is in good shape and can withstand policy tightening.

For oil prices, strong economic growth offsets concerns about higher interest rates, at least in the near-term. This was substantiated earlier today when the 4Q’21 US GDP report handily beat expectations, showing that the COVID-19 omicron variant wasn’t producing as significant of a drag on growth conditions as feared. The demand side of the equation, to say the least, looks resilient.

Moreover, sustained and increasing among Russia, Ukraine, the United States, and Europe (the EU and the UK) are provoking concerns about the supply side. It remains the case that there is “a speculative supply-demand imbalance that could see global energy demand outstrip supply in a meaningful manner should the war of words escalate into boots on the ground,” as noted in last week’s update.

With influences on both the demand and the supply side likely to remain along their current trajectory for the foreseeable future, the fundamental argument for higher oil prices remains intact, alongside a continued bullish outlook from the technical perspective.

OIL VOLATILITY, OIL PRICE CORRELATION ASKEW

Crude oil prices have a relationship with volatility like most other asset classes, especially those that have real economic uses – other energy assets, soft and hard metals, for example. Similar to how bonds and stocks don’t like increased volatility – signaling greater uncertainty around cash flows, dividends, coupon payments, etc. – crude oil tends to suffer during periods of higher volatility. But heightened geopolitical tensions are throwing off the typical relationship between oil prices and oil volatility.

OVX (OIL VOLATILITY) TECHNICAL ANALYSIS: DAILY PRICE CHART (JANUARY 2021 TO JANUARY 2022) (CHART 1)

Oil volatility (as measured by the Cboe’s gold volatility ETF, OVX, which tracks the 1-month implied volatility of oil as derived from the USO option chain) was trading at 45.45 at the time this report was written. As was the case last week, “with tensions in Eastern Europe escalating – threatening to reduce short-term energy supplies – the uptick in volatility in recent days has coincided with higher oil prices.” The 5-day correlation between OVX and crude oil prices is -0.29 while the 20-day correlation is +0.45. One week ago, on January 20, the 5-day correlation was +0.89 and the 20-day correlation was -0.31.

CRUDE OIL PRICE TECHNICAL ANALYSIS: DAILY CHART (NOVEMBER 2020 TO JANUARY 2022) (CHART 2)

In a sense, because bullish momentum has remained firm, the near-term technical outlook for crude oil prices remains intact. Daily MACD is rising above its signal line, while daily Slow Stochastics are holding in overbought territory. Crude oil prices are above their daily 5-, 8-, 13-, and 21-EMA envelope, which is in bullish sequential order. Of note, crude oil prices have not closed below their daily 13-EMA since December 20, 2021, suggesting a ‘buy the dip’ mentality is best suited. The next swing target higher is the OPEC+ fiscal breakeven level of 92.00.

CRUDE OIL PRICE TECHNICAL ANALYSIS: WEEKLY CHART (JANUARY 2008 TO JANUARY 2022) (CHART 3)

Last week it was reaffirmed that “crude oil prices have cleared several key levels of technical resistance in recent days. With crude oil prices above their weekly 4-, 8-, and 13-EMA envelope, which is in bullish sequential order, traders may eye further gains when the calendar flips to January 2022. This view has been strengthened through the first three weeks of the year, and traders may be well-suited to continue to look for further crude oil strength in the near-term.”

IG CLIENT SENTIMENT INDEX: CRUDE OIL PRICE FORECAST (JANUARY 27, 2022) (CHART 4)

Oil - US Crude: Retail trader data shows 35.80% of traders are net-long with the ratio of traders short to long at 1.79 to 1. The number of traders net-long is 5.44% higher than yesterday and 11.94% lower from last week, while the number of traders net-short is 3.12% lower than yesterday and 9.41% lower from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests Oil - US Crude prices may continue to rise.

Positioning is less net-short than yesterday but more net-short from last week. The combination of current sentiment and recent changes gives us a further mixed Oil - US Crude trading bias.

--- Written by Christopher Vecchio, CFA, Senior Strategist