The broad-based SPDR Energy Select Sector ETF (XLE) has rallied above March resistance this week, reclaiming broken support at $70, and it could add substantially to gains in the coming weeks. More importantly, the fund and sector are now well positioned to attract strong 2018 buying interest that could trigger the next phase of the uptrend that began after commodities bottomed out in early 2016.

In turn, that would set the stage for the fund to break out above the 2017 high at $78.45 and head into a critical test at the 2014 bull market high just above $100. The timing could be fortuitous because the prior year's laggards often become the New Year's leaders when market players sell their winners and rotate capital into less overvalued equities. That perfectly describes the energy sector and this popular fund, which has lost more than 4% in 2017. (See also: Why Energy Stocks Are Suddenly Hot.)

XLE Long-Term Chart (1998 – 2017)

 

The fund came public in the mid-$20s in December 1998 and sold off quickly to $21.09. The subsequent uptick continued through the first year of the post-millennial bear market, topping out at $34.90 in May 2001, while the subsequent decline accelerated following the Sept. 11 attacks, dropping into the 1998 opening print. That support level got tested into January 2002, yielding an oversold bounce, followed by a breakdown to an all-time low at $19.38 in July 2002.

A steady uptick completed a round trip into the 2001 high in the fourth quarter of 2004, yielding a breakout and strong trend advance that lifted the sector into a leadership role during the mid-decade bull market. The uptrend peaked in the low $90s in May 2008, rolling over in a steady decline that accelerated during the economic collapse, dumping the fund to a four-year low at $37.40 in March 2009.

It took nearly five years for the subsequent bounce to reach the 2008 high, triggering an April 2014 breakout that hit an all-time high at $101.52 two months later. It failed the breakout in October, triggering major sell signals, ahead of a nasty decline that continued into a five-year low in the first quarter of 2016. Price action since that time has carved a rally that stalled at the 50% sell-off retracement in December 2016, followed by a pullback that found support in August. (For more, see: XLE: Energy Select Sector SPDR ETF.)

XLE Short-Term Chart (2014 – 2017)

 

A Fibonacci grid stretched across the 2016 rally organizes 2017 price action, with the decline finding support at the .786 retracement level in August. The bounce into the fourth quarter mounted the .382 retracement, while the trading range between October and December held support at that level, ahead of a week-long rally that has lifted the fund into the .786 retracement level at $72. It could easily consolidate at or near this price zone into early 2018.

The fund ended a long string of lower highs in December 2016 when it rallied above the November 2015 high at $71.93. However, it will take a rally through the 2017 high at $78.45 to end the equally long string of lower lows because that price action will complete a 100% retracement, confirming that the decline into August 2017 marked a higher low. In turn, that would signal the next stage in the two-year uptrend.

On-balance volume (OBV) topped out in the last decade and posted a lower 2011 high, ahead of a steep distribution wave that carved lower lows in 2012, 2016 and August 2017. This bearish positioning signaled abandonment by institutions in favor of stronger sectors while pointing to a long-term capitulation that may finally be nearing its end. However, it will take months for volume to overcome this persistent exodus, telling market players to act cautiously while they build new long positions. (To learn more, see: Uncover Market Sentiment With On-Balance Volume.)

The Bottom Line

The SPDR Energy Select Sector Fund has rallied to the highest high since March and could eventually break out above the 2017 high at $78.45. More importantly, the energy sector may be entering a leadership phase, set to outperform broad benchmarks in 2018. (For additional reading, check out: Big Oil Set for 2018 Bull Market.)

<Disclosure: The author held no positions in aforementioned securities at the time of publication.>

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