Is This Oil Price Plunge Merely A Correction?

The week started with June West Texas intermediate crude oil futures holding steady despite forming a potentially bearish closing price reversal top on April 12 at $54.14. The move suggested that speculators led by hedge and commodity funds were willing to sit in their long positions and who could blame them because the odds were stacked in their favor.

Stacked on the side of the bullish investors were the events in Syria, supply disruptions, Saudi Arabia's support of an extension of the OPEC-led program to cut supply and the global oil supply.

The rhetoric coming out of Syria even sounded threatening as Russia, Syria and Iran strongly warned the United States against launching new strikes on Syria.

Russian Foreign Minister Sergey Lavrov denounced the U.S. missile strikes on Syria as a "flagrant violation" of international law. Additional such actions would entail "grave consequences not only for regional but global security," Lavrov said.

Syrian Foreign Minister Walid Moallem said the meeting sent a "strong message" to Washington. Iran's Mohammed Javad Zarif emphasized that the participants agreed that unilateral actions by the U.S. were unacceptable.

However, after a few days, the story out of Syria seemed to cycle out of the news as investors shifted their focus on North Korea.

In addition to the oil supply disruptions in Libya, traders are also watching outages in Canada and concerns in Venezuela. Libya's largest oilfield, Sharara was reportedly shut on April 9 after a group blocked a pipeline linking it to an oil terminal. Also during the previous week, a fire at Syncrude Ltd.'s plant restricted supplies of both light synthetic crude and heavy Alberta oil.

Investors were also pleased that Saudi Arabia tried to encourage other OPEC members to go along with an extension of its program to cut output. Speculators were probably hoping that this story would grow legs that took it into the official OPEC meeting on May 25. This would've have probably set a bullish tone in the market for over a month.

Another factor that had the fund traders thinking about further upside action was the news that the International Energy Agency said in its latest report that the oil market was probably already balanced, although it wanted to see more data.

The IEA also said that it expected to see more inventory declines in the future. When combined with the Saudi's push for an extension, certainly no one could fault the hedge and commodity funds from thinking about the long side of the market.

Despite all the bullish news, the market wouldn't move higher. The technical reversal top at $54.14 had capped the market, yet the funds continued to maintain their long positions.

Slowly all the bullishness started to dissipate from the market. Investors started to take out the Syrian premium. As this story started to cycle out of the news, some speculative traders started to book profits.

Additionally, the outages and Libya and Canada became less important as a few of the pipelines went back into operation. The extension story also weakened after Saudi Arabia said it's still too early to think about it.

With all the bullish factors slowly being removed from the equation, all that was left to determine the direction of the market this week was the U.S. Energy Information Administration's weekly inventories report.

And that it did, crude oil collapsed nearly 4 percent after the release of the report. Actual crude inventories drew down as expected, but gasoline stockpiles increased. This sent the funds heading for the exits. Although it took 15 trading sessions for the market to rally $6.56, it took only 4 sessions to take away 50% of the move. That's how intense the selling was.

Technical Analysis

Weekly June West Texas Intermediate Crude Oil

(Click to enlarge)

While some saw the move as a crash, the weekly chart showed it as a correction. So there is still hope for the bullish traders. The price action may look supportive, but this market will still need a bullish catalyst to trigger a breakout to the upside.

The main range is $57.95 to $47.58. Its retracement zone at $52.77 to $53.99 was the primary upside target. It provided resistance when the rally stopped at $54.14.

The short-term range is $47.58 to $54.14. Its retracement zone at $50.86 to $50.09 is the primary downside target.

Crude oil prices collapsed last week when the 50% level at $52.77 was taken out, but the market appears to have found support inside the short-term retracement zone.

We could see a sideways trade next week if the market remains inside $50.09 to $50.86.

The market could strengthen if buyers can overcome $50.86. Look for further downside action if $50.09 is taken out with conviction.