While the general markets remain in pretty good shape even after some recent distribution, the commodities complex has suffered far more damage. Much of the focus has been on silver prices, but oil prices have been hit hard as well. The United States Oil Fund (NYSE:USO) ETF, which can be used as a trading vehicle for oil, is showing the recent plunge quite clearly. USO cleared a significant level in February as it broke above $39. After some initial volatility, USO rallied sharply along with crude oil. It was trading near $45 as crude oil prices cleared $110 a barrel. However, USO reversed and gave up the entire post breakout gain in the span of three days. This is not healthy behavior or consolidation, and warns of further volatility. If USO falls back under the $39 level, it could be signaling further downside.
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The Merril Lynch & Co., Inc. Oil Service HOLDRs (Amex:OIH) ETF, which tracks some oil service stocks, is in a leading divergence to Crude. OIH was consolidating a prior rally for most of 2011 as it traded between $150 and $165. OIH started showing weakness late in April as it dropped under its 50-day moving average. It then failed to hold above the $150 level and volume picked up as it broke down. This breakdown could be a full-fledged head and shoulders topping pattern which would be signaling a rough summer for this group.
Halliburton Company (NYSE:HAL) is a key oil service stock and it is showing some weakness, although not to the degree of OIH. HAL cleared an important level in late January as it broke above the $42 level. It has gradually been rising towards the $50 level as it continues to dip under its 50-day moving average. Each dip has attracted buyers and this has been a reliable entry point. However, HAL started to repeat this pattern a few days ago and then fell back under its 50-day moving average again. It has also fallen under a trendline, marking the bottom of the recent wedge it has been trading in. The $46 level should be watch closely in the coming days as a drop below this level could signal a drop towards the $42 level.
Dril-Quip, Inc. (NYSE:DRQ) is another oil service stock showing some weakness. In fact, DRQ has already broken down under its base and could be in trouble. DRQ had been holding the $72 level on several occasions, and sliced right through it in early May, along with its 200-day moving average near $70. Volume also ticked higher on this drop and DRQ is now attempting to bounce back towards its base. The $72 level could act as significant resistance, and traders need to watch this level for a reversal.
It's difficult to bet on a scenario that includes a strengthening dollar and weakening commodities for any length of time, but crude oil and oil services sectors appear to be at the early stages of a correction. Traders need to keep an eye on crude prices first and foremost, but also keep in mind that service stocks can show weakness despite strength in the commodity. OIH and also the Energy Select Sector SPDR (NYSE:XLE) ETF are two trading vehicles to watch for a trend move in the sector. A breakdown in these ETFs will signal a rough summer for oil stocks. (For more, see Oil And Gas Industry Primer)
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At the time of writing, Joey Fundora did not own shares in any of the companies mentioned in this article.